IMPACT OF GLOBAL

RECESSION ON
CONSTRUCTION
INDUSTRY

CHAPTER 1
1

THE STUDY
1.1 INTRODUCTION:
The sub-prime crisis of the US economy led to the down fall of its major financial
institutions such as, Lehman Brothers, Morgan Stanley, CitiGroup, AIG & others. The lack
of risk management studies & policies in US are main causes of this down fall of financial
institutes. The public sentiments were badly hurt due to this & fear is generated which
affected raising funds from capital market. This in turn led to liquidity crunch around the
globe as American financial institutes pulled out their investments from world over. This
resulted in stock markets crashing around the world. To revive their economies, France
unveiled $33 billion stimulus package, Spain injected Euro 40 Billion, Italy announced an
Euro 80 Billion package, Japan injected $ 255 Billion to shore up their economy, while UK
announced Euro 23.6 Billion Fiscal stimulus package aimed at boosting consumer
confidence & stimulating demand.
In India too, government announced the number of measures to revive the economy amidst
fears of an impending slowdown. These included raising the plan expenditure, reducing
the VAT rate, announcing measures to support exports as well as lending a helping hand to
sectors in the economy facing a credit crunch.
If we see the change in the inflation, as measured by the wholesale price index (WPI), it is
dropped from 12.82% in August 08 to 6.84 % in December 08. The rapid decline in the
rate of inflation gives room for RBI to cut interest rates & for the government to step up
spending without worrying about stoking inflation. The lower interest rates would
encourage consumers & companies to borrow, which would provide immediate stimulus to
rate sensitive sectors such as construction. The 4% cut in the excise rate gets factored into
the prices of manufactured items in the coming weeks; inflation in this category would fall
further.
The unprecedented fear generated by the ongoing global economic slowdown has directly
affected public sentiment & the ability to raise funds from the capital markets
Many companies are now adopting different strategies in this scenario. The Reliance group
is working on setting up a shared service center that will integrate core support functions
2

HR, training, commercials & IT services of all the group companies, into one unit in
Mumbai so as to eliminate talent & competency overlap in the management of all group
companies. Some companies like Patni Computer System preferring to acquire captives
through strategic deals. Many companies who had hired expatriate executives when India
was on 9% plus growth rate are now looking within the country for inexpensive hires.
Indian companies will look increasingly towards private equity (PE) firms to meet their
capital requirements. However, increased pressure of liquidity, declining internal accruals
& the steep fall in valuations offer a good opportunity for PE funds to make investment.
Apart from money, PE investors bring management strength & access to a large
international network & export market.
The government is also taking steps for this. The funds are being sought within a fortnight
of the government announcing additional public spending of Rs. 20,000 cr. & cut in excise
duty to boost economy. In interim budget government spending are increased. GDP
forecast for the year 2008-09 is reduced to 7% compared to 9% in 2007-08
1.2 OBJECTIVE:
The primary objective of the study is to analyze the impact of global slowdown on Indian
construction industry. In particular:

Examine the global recession & its impact on Indian economy

Study the factors which leads to recession
Analyze the impact of that on construction industry- reduced demand, growth,

increase in unemployment, increasing in liability.

Study the strategies adopted by construction firms to tackle the slowdown.

1.3 METHODOLOGY:
The study reviewed all the available literature on global recession & slowdown in the
construction industry. Magazines, websites & dailies were scanned for the literature.
Infrastructure sector was studied for examining the effect of global slowdown along with
global scenario & effect on Indian economy.
A notable fact was that the companies in the infrastructure sector are not affected
much by the financial crunch. Real estate sector got affected more. Therefore the study
3

selected the two major companies in the real estate sector i.e. Delhi Land & Finance Ltd.
(DLF Ltd.) & United Ltd. for case study.
1.4 IMPORTANCE OF THE STUDY:
The global crisis has impacted the construction sector in several ways. Infrastructure
projects are witnessing slowdown & real estate sector is in a slump. Most construction
companies have pushed back several big projects planned earlier, either due to lack of
funds or due to these becoming economically unviable.
Real estate sector is the worst hit sector. There has been a decline in the demand for both
residential & commercial properties. The demand created for housing during the boom
period no longer exists.
In the highway sector, about 60% of awarded national highway projects are yet to achieve
financial closure. Moreover NHAI has seen a significant drop in number of bids received
for national highway projects.
Indian ports have witnessed a significant drop in cargo traffic due to reduction in global
trade.
The pace of activity in power sector particularly in generation has also decelerated.Private
projects are getting delayed due to lack of funds, as in case of Tilaiya Ultra Mega Power
Project (Jharkhand). The generation target of 78700MW for the 11th plan seems
unachievable.
Stalling of projects & lack of project finance due to global meltdown has led to a decline in
the demand of construction equipment. Major equipment manufacturers are cutting down
production. The global crisis has slowed down construction activity & it appears that
situation will begin to look up only by beginning of 2010.
Construction companies have developed series of measures to cut down costs in the recent
slowdown by different means such as cutting of salaries, trimming the company size, & by
preventing investors in large projects with long gestation period. In many cases projects
have been stalled completed due to stagnation in demand of properties. Even in such
adverse condition some companies are able to drive demand by adopting projects on

affordable housing rather than focusing on luxury or ultra luxury projects which had
become a common interest for developers during the boom period.
RBI has made efforts to infuse liquidity in the market. It still needs to induct more money
in the market. As the confidence of market/investors is reduced the government is taking
major steps & initiatives to ensure that all the infrastructure projects it has undertaken
continue in full swing. Banks & financial institutes should significantly lower the interest
rates to attract the customers.
Scope and limitations:
The study was on a very recent macro-economic problem faced by the whole world, with
special focus on Indian economy and in construction and infrastructure development
sector. Since it is very recent and new, the study was conducted based on the available data
and information available at the moment.
Scheme of the study:
The thesis is presented in six chapters. The first chapter entitled The Study is an
introduction chapter. It gives an overview of the study carried out. The second chapterLiterature Review, gives an overview of the historical data of business cycles, past
recessions and unfolding of the present sub-prime crisis. The third chapter - Impact of the
Global Slowdown examines the impact of the crisis on the Indian economy and the
construction industry in particular stating the reasons for the meltdown. The fourth
chapter- Government Initiatives during Slow Down emphasis on the Government response
in the form of monetary & fiscal policy and initiatives in Real Estate and Infrastructure
sector. Chapter five- Strategies Adopted and Its Impact on the Economy deals with coping
strategies adopted by construction firms with some cases from the industry and overview
of the Economy after recession. The last chapter presents the findings and conclusion of
the study.

CHAPTER 2
LITERATURE REVIEW - BUSINESS CYCLE & RECESSION
2.1 BUSINESS CYCLE
The term business cycle or economic cycle refers to economy-wide fluctuations in
production or economic activity over several months or years, around a long-term growth
trend. It typically involves shifts over time between periods of relatively rapid economic
growth (expansion or boom), and periods of relative stagnation or decline (contraction or
recession)[1].
These fluctuations are often measured using the growth rate of real gross domestic
product. Despite being termed cycles, these fluctuations in economic growth do not follow
a mechanical or predictable periodic pattern.
In 1860, French economist Clement Juglar identified the presence of economic cycles 8 to
11 years long, although he was cautious not to claim any rigid regularity

[2]

. In the mid-

20th century, Joseph Schumpeter and others proposed a typology of business cycles
according to its periodicity, so that a number of particular cycles were named after their
discoverers or proposers [3]:
* The Kitchin inventory cycle of 35 years (after Joseph Kitchin);
* The Juglar fixed investment cycle of 711 years (after Clement Juglar);
* The Kuznets infrastructural investment cycle of 1525 years (after Simon Kuznets);
* The Kondratieff wave or long technological cycle of 4560 years (after Nikolai
Kondratieff).
According to Schumpeter, a Juglar cycle (often identified as 'the' business cycle) has four
stages:
(i) Expansion (increase in production and prices, low interests rates);
6

(ii) Crisis (stock exchanges crash and multiple bankruptcies of firms occur);
iii) Recession (drops in prices and in output, high interests rates);
(IV) Recovery (stocks recover because of the fall in prices and incomes).
In this model, recovery and prosperity are associated with increases in productivity,
consumer confidence, aggregate demand, and prices. In the cycles before World War II or
that of the late 1990s in the United States, the growth periods usually ended with the
failure of speculative investments built on a bubble of confidence that bursts or deflates,
with the periods of contraction and stagnation reflecting a purging of unsuccessful
enterprises as resources were transferred by market forces from less productive uses to
more productive uses.
Cycles between 1945 and the 1990s in the United States were generally more restrained
and seem to follow political factors, such as fiscal policy and monetary policy. Automatic
stabilization due to the government's budget helped defeat the cycle even without
conscious action by policy-makers. A colloquial term for a crisis of this time scale is a
"decennial crisis" (meaning one that occurs after about ten years). This phrase was used
during the Great Depression due to its similarity with the Panic of 1825 in London ten
years after the end of the Napoleonic Wars. After the Second World War, however, the
nearest equivalent in time and intensity was the recession of 1958.
Interest in these different typologies of cycles has waned since the development of modern
macroeconomics, which gives little support to the idea of regular periodic cycles.
2.1.1 Definition of Business Cycle
In 1946, economists Arthur F. Burns and Wesley C. Mitchell provided the now standard
definition of business cycles in their book Measuring Business Cycles[4]:
Business cycles are a type of fluctuation found in the aggregate economic activity of
nations that organize their work mainly in business enterprises: a cycle consists of
expansions occurring at about the same time in many economic activities, followed by
similarly general recessions, contractions, and revivals which merge into the expansion
phase of the next cycle; in duration, business cycles vary from more than one year to ten or

twelve years; they are not divisible into shorter cycles of similar characteristics with
amplitudes approximating their own.

According to A. F. Burns [5]:

Business cycles are not merely fluctuations in aggregate economic activity. The critical
feature that distinguishes them from the commercial convulsions of earlier centuries or
from the seasonal and other short term variations of our own age is that the fluctuations are
widely diffused over the economy-its industry, its commercial dealings, and its tangles of
finance. The economy of the western world is a system of closely interrelated parts. He
who would understand business cycles must master the workings of an economic system
organized largely in a network of free enterprises searching for profit. The problem of how
business cycles come about is therefore inseparable from the problem of how a capitalist
economy functions.[6]
2.1.2 Cycles Or Fluctuations
In recent years economic theory has moved towards the study of economic fluctuation
rather than a 'business cycle'[citation needed] - though some economists use the phrase
'business cycle' as a convenient shorthand. For Milton Friedman calling the business cycle
a "cycle" is a misnomer, because of its non-cyclical nature. Friedman believed that for the
most part, excluding very large supply shocks, business declines are more of a monetary
phenomenon.
Rational expectations theory states that no deterministic cycle can persist because it would
consistently create arbitrage opportunities. Much economic theory also holds that the
economy is usually at or close to equilibrium. These views led to the formulation of the
idea that observed economic fluctuations can be modeled as shocks to a system.
In the tradition of Slutsky, business cycles can be viewed as the result of stochastic shocks
that on aggregate form a moving average series.
2.1.2.1 Explaining fluctuations
8

The explanation of fluctuations in aggregate economic activity is one of the primary

concerns of macroeconomics. The most commonly used framework for explaining such
fluctuations is Keynesian economics. In the Keynesian view, business cycles reflect the
possibility that the economy may reach short-run equilibrium at levels below or above full
employment. If the economy is operating with less than full employment, i.e., with high
unemployment, then in theory monetary policy and fiscal policy can have a positive role to
play rather than simply causing inflation or diverting funds to inefficient uses.
Keynesian models do not necessarily imply periodic business cycles. However, simple
Keynesian models involving the interaction of the Keynesian multiplier and accelerator
give rise to cyclical responses to initial shocks. Paul Samuelson's "oscillator model" is
supposed to account for business cycles thanks to the multiplier and the accelerator. The
amplitude of the variations in economic output depends on the level of the investment, for
investment determines the level of aggregate output (multiplier), and is determined by
aggregate demand (accelerator).
In the Keynesian tradition, Richard Goodwin accounts for cycles in output by the
distribution of income between business profits and workers wages. The fluctuations in
wages are the same as in the level of employment, for when the economy is at fullemployment, workers are able to demand rises in wages, whereas in periods of high
unemployment, wages tend to fall. According to Goodwin, when employment and business
profits rise, the output rises.
Keynesian economist Hyman Minski has proposed an explanation of cycles founded on
fluctuations in credit, interest rates and financial frailty. In an expansion period, interest
rates are low and companies easily borrow money from banks to invest. Banks are not
reluctant to grant them loans, because expanding economic activity allows business
increasing cash flows and therefore they will be able to easily pay back the loans. This
process leads to firms becoming excessively indebted, so that they stop investing, and the
economy goes into recession.
Keynesian views have been challenged by real business cycle models in which fluctuations
are due to technology shocks. This theory is most associated with Finn E. Kydland and

Edward C. Prescott. They consider that economic crisis and fluctuations cannot stem from
a monetary shock, only from an external shock, such as an innovation.
Following the tradition of Adam Smith and David Ricardo mainstream economists have
usually viewed the departures of the harmonic working of the market economy as due to
exogenous influences, such as the State or its regulations, labor unions, business
monopolies, or shocks due to technology or natural causes (e.g. sunspots for S. Jevons,
planet Venus movements for H. L. Moore) [7].
2.1.2.2 Mitigation
Most social indicators (mental health, crimes, and suicides) worsen during economic
recessions. As periods of economic stagnation are painful for the many who lose their jobs,
there is often political pressure for governments to mitigate recessions. Since the 1940's,
most governments of developed nations have seen the mitigation of the business cycle as
part of the responsibility of government.
Since in the Keynesian view, recessions are caused by inadequate aggregate demand, when
a recession occurs the government should increase the amount of aggregate demand and
bring the economy back into equilibrium. This the government can do in two ways, firstly
by increasing the money supply (expansionary monetary policy) and secondly by
increasing government spending or cutting taxes (expansionary fiscal policy).
However, even according to Keynesian theory, managing economic policy to smooth out
the cycle is a difficult task in a society with a complex economy. Some theorists, notably
those who believe in Marxist economics, believe that this difficulty is insurmountable.
Karl Marx claimed that recurrent business cycle crises were an inevitable result of the
operations of the capitalistic system. In this view, all that the government can do is to
change the timing of economic crises. The crisis could also show up in a different form, for
example as severe inflation or a steadily increasing government deficit. Worse, by delaying
a crisis, government policy is seen as making it more dramatic and thus more painful.

1. Sullivan, Arthur; Steven M. Sheffrin (2003). Economics: Principles in action. Upper Saddle River, New Jersey
07458: Pearson Prentice Hall. pp. 57,310. ISBN 0-13-063085-3.

10

2. M. W. Lee, Economic fluctuations. Homewood, IL, Richard D. Irwin, 1955

3. J. A. Schumpeter, History of Economic Analysis. London, George Allen & Unwin, 1954
4. A. F. Burns and W. C. Mitchell, Measuring business cycles, New York, National Bureau of Economic
Research, 1946.
5. A. F. Burns, Introduction. In: Wesley C. Mitchell, What happens during business cycles: A progress report.
New York, National Bureau of Economic Research, 1951
6. "US Business Cycle Expansions and Contractions". NBER. Retrieved on 2009-02-20.
7. Mary S. Morgan, The History of Econometric Ideas, Cambridge University Press, 1991.

2.2 AMERICAS GREAT DEPRESSION - OVERVIEW:

The Great Depression is probably one of the most misunderstood events in American
history. It is routinely cited as proof that unregulated capitalism is bad, and that only a
massive welfare state, huge amounts of economic regulation, and other interventions, can
save capitalism from itself. Among the many myths surrounding the Great Depression are
that Herbert Hoover was a laissez faire president and that FDR brought us out of the
depression.
What caused the Great Depression? To get a handle on that, it's necessary to look at
previous depressions and compare. The Great Depression was by no means the first
depression this country ever had, but it was clearly the worst. What made it different than
the rest? At the time of the Great Depression, government intervention in the economy
was higher than it had ever been and a special government agency had been set up
specifically to prevent depressions and their associated problems, such as bank panics.
This agency was the Federal Reserve Board and it was to have been the loaner of last
resorts for banks in order to prevent collapses as had happened during earlier depressions.
But as we'll see, there is good reason to believe that the Fed's actions explain a lot of the
problems that lead up to the Stock market crash and the subsequent depression.
2.2.1 Recession, Depression and Business Cycles
The exact cause of business cycles is one of the biggest problems in economics. There are
several explanations. The current Keynesian models rely on what is referred to as "sticky
11

wages" (or "sticky prices") to explain why the cycles occur. Under these models, wages or
prices fail to reach their market clearing level. The Austrian School explanation is that all
business cycles are due to government intervention in the economy.

In particular,

government efforts to manipulate the interest rate causes a boom and bust cycle because
people over-invest ("malinvestment") when interest rates are low and when interest rates
are raised to stave off the inevitable inflation, a bust is caused due to the mismatching of
consumer and business goods.
There are six depressions in American history that are thought to be the worst since
detailed records of economic data started to be kept (around 1867), 1873-79, 1893-97
(actually two contractions separated by an incomplete expansion), 1907-08, 1920-21,
1929-33, and 1937-38. Although depressions vary on length and severity, the similarities
are so profound that Nobel Laureate Robert Lucas has stated, "business cycles are all
alike." Since it's been about 60 years since we've had a depression, one might think that
the economy is being managed better than it used to be. It's not clear why the economy is
being managed better. The Federal Reserve Board was created in 1913 and yet half of the
worst depressions happened after its creation.
2.2.2 The Federal Reserve Board
The Federal Reserve Board was created in 1913. Ostensibly, it was to act as the lender of
last resort to prevent bank panics like the one that had occurred in 1907. Although some
conspiracy minded folks might weave elaborate tales regarding its creation, the reason is
rather straightforward. The big banks simply wanted government protection and bailouts
and were more than willing to endure a little government regulation in return. Like the
Interstate Commerce Commission before it, the Fed would be staffed with people from the
industry that it was supposedly a watchdog over and who would most likely feel that
what's good for banks is good for America. Throughout the years preceding the Stock
Market crash, the Fed did just that. The Fed set below market interest rates and low
reserve requirements that all favored the big banks. The money supply actual increased by
about 60% during this time.

The phrase "buying on margin" entered the American

vocabulary at this time as more and more Americans over-extended themselves to take
advantage of the soaring stock market.

12

So what went wrong? It was in 1929 that the Fed realized that it could not sustain its
current policy. When it started to raise interest rates, the whole house of cards collapsed.
The Stock Market crashed and the bank panics began.

But what would make this

depression worse than all the rest? There was a depression in 1921, but no one remembers
that one. What was different? As we'll see, there were a number of policies enacted over
the next few years that, from both a free market and a Keynesian perspective, would do
nothing to help America recover and do everything to exacerbate the depression. Over the
next few years, the Fed would allow the money supply to contract by a third.
2.2.4 Causes:
2.2.4.1 The Stock Market Crash
The Stock Market Crash in October of 1929 is often cited as the beginning of the Great
Depression, but did it actually cause it? The answer is no. First, the stock price for a
particular company merely reflects current information about the future income stream of
that company. Thus, it is a change in available information that changes the stock price.
When the Fed began to raise interest rates in early 1929, this began the tumble.
However, a stock market crash could cause people to increase their liquidity preference
which might lead them to hoard money.
2.2.4.2 Hoarding Money
People hoard money because they have a liquidity preference. i.e., people want to have
their assets in a readily convertible form, such as money. There are several misconceptions
about hoarding money. First hoarding is not the same thing as saving. If I put my money
into a savings account, that money is lent out to someone else who then spends it. Second,
hoarding, by itself, cannot cause a recession or depression. As long as prices and wages
drop instantly to reflect the lower amount of money in the economy, then hoarding causes
no problems. Indeed, hoarding can even be seen as beneficial to those who don't hoard,
since their money will be able to buy more goods as a result of the lower prices.
2.2.4.3 The Gold Standard

13

At the time of the Great Depression, America had a 100% gold standard for its money.
This meant that all cash was backed by a government promise to redeem it in a specific
amount of gold (at the time, one ounce of gold was redeemable for twenty dollars).
Because the amount of money circulating in the economy is wholly dependent on the
amount of gold available, the money supply is very rigid. If people start to hoard money,
the money supply can drop drastically. As noted in the previous section on hoarding, this
is not a problem as long as prices and wages drop instantly to reflect the lower amount of
money circulating.
In "Gold Standards and the Real Bills Doctrine in U.S. Monetary Policy", professor
Richard Timberlake argues that the gold standard was not responsible for the Great
Depression, since the Federal Reserve had not been following a strict gold standard prior
to the onset of the Depression.
2.2.4.4 The Smoot-Hawley Tariff
In 1988, the Council of Economic Advisors proclaimed that the Smoot Hawley Tariff Act
was "probably one of the most damaging pieces of legislation ever signed in the United
States." The act was passed in June of 1930 and increased tariffs to a tax of 50 percent on
goods imported into the United States.

Since this occurred after the onset of the

Depression, it's hard to see how it could have caused it. However, since the real effect of
the increased tariffs was to increase prices and increase price rigidity, it is easy to see how
the Act could have exacerbated the Depression. Enacting the tariff was exactly the wrong
thing to do and about 1,000 economists signed a petition begging Congress not to pass it.
Eventually, 60 other countries passed retaliatory tariffs in response.
2.2.4.5 The Federal Reserve Board
The Fed was ostensibly created to prevent bank panics and Depressions. Is it possible that
the Fed was actually responsible for the Depression? The answer is a qualified no. The
Fed took several actions that, in retrospect, were quite bad. The first thing it did was to
inflate the money supply by about 60% during the 1920's. If the Fed had been a little more
careful in expanding the money supply, it might have prevented the artificial Stock market
boom and subsequent crash. Second, there are indications that the economy was starting
to cool off on its own in early 1929, thus making the interest rate hike in TBD completely
14

unnecessary and avoiding the subsequent crash. The third mistake the Fed made was in
early 1931.

The Fed raised interest rates, exactly the wrong thing to do during a

contraction. Ironically, the country's gold stock was increasing at this point all on its own,
so doing nothing would have increased the money supply and helped the recovery.
Hall and Ferguson write that:
The Federal Reserve began expressing concern in early 1928 and at that time began a
policy of monetary restriction in an effort to stem the stock market advance. This policy
continued through May 1929. The monetary restriction was carried out by selling $405
million in government securities and raising the discount rate in three stages from 3.5
percent to 5 percent at all Federal Reserve banks.
Hall and Ferguson also write that:
But a further irony is the fact that the very existence of the Federal Reserve caused banks
to wait for the central bank to act and not turn to the solutions they had devised in the face
of the banking crises of the nineteenth century.
But even with all that bungling, it is not clear that we can lay responsibility for the Great
Depression at the feet of the Fed.
2.2.4.6 Malinvestment
"Malinvestment" is a term coined by the Austrian school of economics to sum up their
explanation of the causes of business cycles. According to this theory, all business cycles
are caused by government intervention in the market. Specifically, the central bank (the
Fed in the case of the U.S.) artificially lowers the interest rate, flooding the economy with
money. This money is then invested in capital goods that would not be justified at a
market level of interest rates. The low interest rate cannot be sustained forever without an
increase in inflation, so the Fed inevitably has to raise interest rates. When this happens,
the investments that were "justified" under a lower interest rate must be liquidated. Any
prevention of this liquidation by further government intervention will simply prolong the
re-adjustment and thus exacerbate the recovery. This view is held by very few economists.
2.2.4.7 Sticky Prices/Sticky Wages

15

Prices and wages change in accordance to the scarcity of goods and labor relative to the
amount of money that is available to buy them. For example, if the Federal Reserve Board
increases the nation's money supply, then prices and wages will tend to go up, reflecting
the fact that more money is chasing the same amount of goods and labor. When the Fed
does too much of this, it is called inflation. But what happens if the money supply goes
down relative to the amount of goods and labor? Eventually, the price of goods and labor
will go down as well in the long run. But in the short run, prices and wages can "stick" at
a higher level than the market clearing price or wage. When this happens, people buy less
and employers hire less, thus causing cut backs in production and employment. There are
a number of reasons why prices and wages might stick. One reason is referred to as "menu
costs," meaning that it often costs money to change a price. A good example is a
restaurant that has to print new menus every time the prices change.
2.2.4.8 Income Inequality
In American Inequality: A Macroeconomic History (1980), by Jeffrey G. Williamson and
Peter H. Lindert, it is reported that the period of 1928 through the first three quarters of
1929, using any number of income inequality measures, the U.S. may have experienced
"the highest income inequalities in American History" .
In The Great Depression: An International Disaster of Perverse Economic Policies, Hall &
Ferguson write that:
Wages grew more slowly than output per worker, which suggests that corporate profits
were rising. This change shows up as rising dividends, which constituted 4.3 percent of
national income in 1920 and rose to 7.2 percent of national income by 1929 (Soule 1947,
284). Since 82 percent of all dividends were paid to the top 5 percent of income earners,
this clearly helped contribute to the change in income inequality (Potter 1974).
2.2.5 Cures:
2.2.5.1 World War II
The end of the Great Depression is often marked as December 1941, the same time that
America became officially involved in World War II. Did World War II really end the
Great Depression, though? It's useful to note that the economy had been in expansion since
16

June of 1938, two and a half years before U.S. entry into the Second World War and that
the economy stopped expanding in February 1945, prior to the end of the war. In Wartime
Prosperity A Reassessment of the U.S. Economy in the 1940s, Robert Higgs argues:
Relying on standard measures of macroeconomic performance, historians and economists
believe that war prosperity prevailed in the United States during World War II. This
belief is ill-founded, because it does not recognize that the United States had a command
economy during the war. From 1942 to 1946 some macroeconomic performance measures
are statistically inaccurate; others are conceptually inappropriate. A better grounded
interpretation is that during the war the economy was a huge arsenal in which the wellbeing of consumers deteriorated. After the war genuine prosperity returned for the first
time since 1929.
2.2.5.2 Doing Nothing
Amazingly, doing nothing often seems to be the correct response. The Depressions of
1907 and 1920 were both over within a year, even though the Federal government did
virtually nothing in response.

www. amatecon.com Americas great depression, December 28, 2007

2.3 UNFOLDING OF PRESENT SUB-PRIME CRISIS

The subprime mortgage crisis is an ongoing financial crisis triggered by a dramatic rise in
mortgage delinquencies and foreclosures in the United States, with major adverse
consequences for banks and financial markets around the globe. The crisis, which has its
roots in the closing years of the 20th century, became apparent in 2007 and has exposed
pervasive weaknesses in financial industry regulation and the global financial system.
Approximately 80% of U.S. mortgages issued in recent years to subprime borrowers were
adjustable-rate mortgages. When U.S. house prices began to decline in 2006-07,
refinancing became more difficult and as adjustable-rate mortgages began to reset at
higher rates, mortgage delinquencies soared. Securities backed with subprime mortgages,
widely held by financial firms, lost most of their value. The result has been a large decline

17

in the capital of many banks and USA government sponsored enterprises, tightening credit
around the world.
The crisis began with the bursting of the United States housing bubble which peaked in
approximately 20052006. High default rates on "subprime" and adjustable rate mortgages
(ARM), began to increase quickly thereafter. Lax regulation, deregulation of government
policies and investment from the private sector greatly increased Wall Street's involvement
in higher-risk lending. Subprime mortgages increased 292%, from 2003 to 2007. An
increase in loan incentives such as easy initial terms and a long-term trend of rising
housing prices encouraged borrowers to assume difficult mortgages in the belief they
would be able to quickly refinance at more favourable terms. However, once interest rates
began to rise and housing prices started to drop moderately in 20062007 in many parts of
the U.S., refinancing became more difficult. Defaults and foreclosure activity increased
dramatically as easy initial terms expired, home prices failed to go up as anticipated, and
ARM interest rates reset higher. Foreclosures accelerated in the United States in late 2006
and triggered a global financial crisis through 2007 and 2008. During 2007, nearly 1.3
million U.S. housing properties were subject to foreclosure activity, up 79% from 2006.
Although they had been issued and traded for decades, the amount of financial agreements
called mortgage-backed securities (MBS), which derive their value from mortgage
payments and housing prices, greatly increased around the beginning of the 21st century.
These financial agreements and others derivative to them allowed financial institutions and
investors around the world to invest in the U.S. housing market. The market for MBS
composed of subprime loans developed late in the U.S. housing boom, but grew very
quickly. Major banks and financial institutions had borrowed and invested heavily in
subprime MBS and reported losses of approximately US$435 billion as of 17 July 2008.
The liquidity and solvency concerns regarding key financial institutions drove central
banks to take action to provide funds to banks to encourage lending to worthy borrowers
and to restore faith in the commercial paper markets, which are integral to funding
business operations. Governments also bailed out key financial institutions, assuming
significant additional financial commitments.

18

The risks to the broader economy created by the housing market downturn and subsequent
financial market crisis were primary factors in several decisions by central banks around
the world to cut interest rates and governments to implement economic stimulus packages.
These actions were designed to stimulate economic growth and inspire confidence in the
financial markets. Effects on global stock markets due to the crisis have been dramatic.
Between 1 January and 11 October 2008, owners of stocks in U.S. corporations had
suffered about $8 trillion in losses, as their holdings declined in value from $20 trillion to
$12 trillion. Losses in other countries have averaged about 40%. Losses in the stock
markets and housing value declines place further downward pressure on consumer
spending, a key economic engine. Leaders of the larger developed and emerging nations
met in November 2008 and March 2009 to formulate strategies for addressing the crisis.
As of April 2009, many of the root causes of the crisis had yet to be addressed. A variety of
solutions have been proposed by government officials, central bankers, economists, and
business executives.
Subprime lending is the practice of lending, mainly in the form of mortgages for the
purchase of residences. These mortgages departed significantly from the usual criteria for
borrowing at the lowest prevailing market interest rate. The departures in criteria pertained
to "non-traditional", higher-risk structure of the loans (such as "option ARMs"), poor loan
documentation, low levels of collateral, the borrower's credit score, credit history and other
factors. When real estate prices fall, the value of the collateral securing the mortgage drops
and the risk of loss to the lender increases significantly. If a borrower is delinquent in
making timely mortgage payments to the loan servicer (a bank or other financial firm), the
lender may be forced to take possession of the property, in a process called foreclosure.
The value of USA subprime mortgages was estimated at $1.3 trillion as of March 2007,
with over 7.5 million first-lien subprime mortgages outstanding. Between 2004-2006 the
share of subprime mortgages relative to total originations ranged from 18%-21%, versus
less than 10% in 2001-2003 and during 2007. In the third quarter of 2007, subprime ARMs
making up only 6.8% of USA mortgages outstanding also accounted for 43% of the
foreclosures which began during that quarter. By October 2007, approximately 16% of
subprime adjustable rate mortgages (ARM) were either 90-days delinquent or the lender

19

had begun foreclosure proceedings, roughly triple the rate of 2005. By January 2008, the
delinquency rate had risen to 21% and by May 2008 it was 25%.
The value of all outstanding residential mortgages, owed by USA households to purchase
residences housing at most four families, was US$9.9 trillion as of year-end 2006, and
US$10.6 trillion as of midyear 2008. During 2007, lenders had begun foreclosure
proceedings on nearly 1.3 million properties, a 79% increase over 2006. This increased to
2.3 million in 2008, an 81% increase vs. 2007. As of August 2008, 9.2% of all mortgages
outstanding were either delinquent or in foreclosure. Between August 2007 and October
2008, 936,439 USA residences completed foreclosure. Foreclosures are concentrated in
particular states both in terms of the number and rate of foreclosure filings. Ten states
accounted for 74% of the foreclosure filings during 2008; the top two (California and
Florida) represented 41%. Nine states were above the national foreclosure rate average of
1.84% of households
The Mortgage Loans Expansion in the Industrial World
Before:

Fig 2.1

The Subprime Crisis Implications for India by Anand Shankar, Madras School of Economics.

Fig 2.2

20

Effects
Firstly, the subprime crisis has led to near loss of confidence in the American Stock
Markets, and this has accentuated the credit crunch. Many big investment banks have been
brought down to their knees and many others are finding it extremely difficult to stay on
their feet. In order to consolidate their respective balance sheets in the United States, these
banks are unwinding positions in developing markets hence causing down swing in these
markets. A simple case in point was the intraday 1400 points fall on the BSE in January
2008 that was brought about by Citi Bank unwinding its position in many front line stocks
in India. The subprime that was brought upon by the American financial system upon itself
is spreading its tentacles around the world. People who were not even remotely connected
with the subprime crisis are being adversely affected.
Secondly, the near recession situation in the USA has led to a loss of demand for Indian
exports hence loss of export earnings for India. The Americans are known to live beyond
21

their means. However, on account of the subprime crisis, all their sources of credit have
dried up, and they are being forced to cut down on their expenditures. Thus demand for
imports is falling, which implies loss of revenues for countries like India. Not only is there
a loss in the goods sector, but the IT sector is also feeling the pinch. Software development
for many US firms takes place in India but as the American firms are facing an economic
slowdown, they are demanding less IT products, leading to a fall in the growth rate of the
Indian IT sector.
Thirdly, investment banks and other financial institutions are on a job slashing spree to cut
costs. This means that many jobs in India are at stake because these institutions have their
BPOs in India. So the first jobs to go will be the low end Indian BPO jobs leading to
increased unemployment in India.
Fourthly, there will be serious implications for the banking sector as well. The subprime
has meant that the Indian banks have to follow stricter norms while disbursing loans to the
people. These tighter norms could prove to be counter cyclical. The argument is this
people will be asked to provide collateral for the loans given to them. Anybody who is
unable to furnish the collateral will be denied a loan. This policy will exclude a majority of
the population from institutional sources of credit, thereby affecting growth negatively.
Fifthly, there is a risk of the financial contagion spreading to the entire world. Firms like
Bear Sterns, Lehman Brothers, Meryl Lynch who once inspired confidence amongst the
investor class have now gone bust. Other giants like Citi Bank, Morgan Stanley, and AIG
have been shaken from their very foundations. Freddie Mac and Fannie Mae are under the
conservatorship of the US government. The risk is, thus, the domino effect. If one more
big financial institution fails there will be a collapse of the entire financial system of the
USA.

22

Fig 2.3

23

President Address to US, www. whitehouse.gov/news/releases/2008/09/20080924-10

24

CHAPTER 3
IMPACT OF GLOBAL SLOWDOWN ON INDIA &
INDIAN CONSTRUCTION INDUSTRY
3.1 INTRODUCTION
The Indian economy has been performing exceptionally well since 2003, with growth in
the five quarters until Sep 08 averaging 8.5% (Table 3.1). This period has seen some
substantial changes in the challenges that India faces as the Indian economy transited from
the high growth period of 2007 that threatened overheating to the deceleration period
evident in the later part of 2008.
Table 3.1 India GDP breakdown by industry & expenditure.

The year 2008 saw the Indian economy being subject to sets of forces. One was the lagged
impacts of the monetary tightening by the Reserve Bank of India (RBI) and the other was
the progressively greater impact of the global financial crisis. Consequently, India
experienced a reversal of important trends:

25

 In the early part of 2008, India was plagued by high inflation, which turned around later
in the year as the global slowdown caused commodity prices to fall.
The fiscal consolidation that was evident in recent years suffered a setback as
government raised subsidies to combat the earlier spike in inflation: with more fiscal
stimulus packages likely, fiscal deficits are likely to widen rather than consolidate.
As the global economy weakened, capital inflows which helped to drive the economy in
previous years turned into capital outflows, putting pressure on the currency, causing the
Indian Rupee to reverse its earlier appreciation.
3.2 THE IMPACT OF THE CRISIS
We summarise the main impact of the crisis on India in Table 3.2 most of the impact will
come through financial, trade and remittances.
Table 3.2 : Summary - Main Channels of Impact

3.2.1 Tighter financial conditions: key transmission route

According to the Securities and Exchange Board of India (SEBI), FIIs sold a net of INR
43,782 crore in the Indian equity markets in 2008/09 as compared to a net purchase of
INR64,776 crore in the same period of 2007/08 (Chart 3.1). This extraordinary turnaround
in capital flows reflected the increased integration of Indian financial markets into the

26

global capital market. With the increased correlation of Indian equity price changes with
those in the equity markets of the developed world, India no longer provides the same
level of diversification as in the past when India was more insulated from global financial
markets. At a time of rising risks and reduced risk tolerance among the major investment
funds of the world, foreign investors cut their exposure to Indian financial assets,
producing this substantial outflow.
CHART 3.1

CHART 3.2

This phenomenon of flight to safety is putting pressure on the Indian Rupee which has
depreciated dramatically in 2H08/09. RBIs foreign reserves have fallen to USD123.44bn
in Nov 08 from its peak of USD134.40bn two months earlier. The Rupee started 2008 at
INR39.4/USD and now trades around INR48.5/USD.
3.2.2 Difficulties in funding: higher cost of capital
As capital flowed out of the Indian financial system, credit markets experienced a
reduction in liquidity, causing lending rates to rise until the RBI intervened in Oct 08
(Chart 3.2), an intervention followed up in mid-December by the central governments

27

insistence that state-owned banks pass on a part of the RBI interest rate reductions to
consumers and firms.
The average size of public issues declined INR540.8 crore in the Apr-Dec 08 period. The
lack of resource mobilization is well depicted in the mutual funds market which indicates a
net outflow of INR30, 432 crore in the same period compared to an inflow of INR1,
23,993 crore in the same period of 2007/08.
Despite these difficulties, the Indian economy did not have to endure the banking sector
travails evident in the United States, Europe and some emerging market countries in
Europe.
3.2.3 Trade in goods and services
Indian exports contracted in Oct 08 and Nov 08 for the first time since Mar 02 (Chart 3.3).
Indian IT firms which have grown robustly over the past years are now expecting some
slowing in their sector. We expect a contraction in volumes in the coming months. Already
some companies are feeling the heat. The National Association of Software Services
Companies said that revenues are expected to grow about 17% from the previously
estimated 21% for 2008/091. The tarnished reputation of the industry after the recent fraud
scandals will also enforce a cautious approach to outsourcing in the short run.
CHART 3.3

CHART 3.4

As for merchandise exports, India is already suffering a slowdown. According to Indias

Economic Advisory Council, growth in exports of refined petroleum products (which
28

account for approximately 15% of exports) is expected to slow to 6% lower than the
amount registered last year2. The export of gems and jewellery is also expected to fall by
about 10% in 2008/09. The declines reflect both lower prices as well as reduced volumes.
Non-oil, non-jewellery exports are expected to grow at a slower pace of 12% but this is
unlikely to offset the contraction in other exports.
Weaker exports could also affect Indias current account the current account is driven by
a number of forces:

1 Indias outsourcing growth seen to slow down, Financial Times, 5th February 2009
2 In USD terms
3 World Bank, Migration and Remittances Team, Development Prospects Group

Oil prices: The current account deficit ballooned in the first two quarters of 2008
because of a high oil imports (Chart 3.4). Since then, oil prices have receded,
helping to stabilise the trade deficit in the last quarter (Chart 3.5). With the global
recession putting substantial downward pressure on oil prices, the Indian economy

is set to receive substantial relief on the current account balance.

Remittances: Private transfers comprise 60% of total invisibles in the balance of
payments. According to the World Bank, India is the highest recipient of
remittances across the world as of 2008 data 3. Broadly speaking, overseas Indian
workers are located in two regions: the Middle East and developed countries such
as the United States, United Kingdom and Canada. The workers in the Middle East
are mostly unskilled labour employed in construction and oil-related services while
overseas Indians in the developed countries include skilled labour in the banking
and information technology (IT) industry. Consequently, it is almost inevitable that
remittances will decline. Companies in developed economies will have to retrench
workers including foreign ones such as overseas Indian workers as weaker demand
forces them to align their capacity with lower demand. Remittance outflows from
the Middle East are linked to oil prices: as oil revenues fall substantially below
expected levels, spending on construction and related areas where overseas Indians
work will fall and reduce the demand for such workers. Remittances from overseas
Indian workers stood at USD25.7bn in 1H08/09, an increase of 53% and 40.1% in
1Q08/09 and 2Q08/09 (chart 3.6).

29

CHART 3.5

CHART 3.6

Ultimately, the current account balance is driven by movements in the savings rate vis-vis the investment rate. Our view is that the impact of the global slowdown will be a
material fall in the investment rate where the decline is likely to be greater than the decline
we also see in Indias savings rate. This means that the current account deficit/GDP ratio is
likely to improve moderately in 2009.
3.2.4 Foreign Direct Investment
According to UNCTAD, FDI inflows to India in 2008 recorded USD36.7bn, an increase of
almost 60% from the previous year. While Indias long term fundamentals remain
compelling for foreign investors, greater uncertainty as well as the difficulty that
companies face in raising capital mean that FDI inflows may diminish for a period of at
least one to two years.
3.3 HOW RESILIENT WILL INDIA BE?
We see several keys to resilience to such a major external shock.
The first is whether the structure of the economy allows for more shock absorbers in the
system or whether structural weaknesses mean that there are shock amplifiers that far from
softening the blow of external shocks actually magnify the initial impact. In many cases, a

30

key absorber or amplifier is the financial sector. A robust financial sector with relatively
strong banks makes for a more resilient economy.
Second, how diversified is the economy? Is it overly dependent on external demand with
domestic demand playing a subsidiary role? Is its export and/or industrial base diverse
enough?
Third, how well-placed is the country to make a robust and effective policy response?
3.3.1 Financial sector: well-supervised and largely resilient
The Indian banking industry was mostly not exposed to the derivative financial products
that have caused the financial crisis in the United States. This is because complex financial
tools such as securitized securities were only recently introduced and had not caught on.
Table 3.4 provides an overview of the Indian banking industry with some key ratios. This
shows that Indian banks entered the global crisis with a considerable capital cushion: a
Risk Weighted Capital Ratio of 13% is substantially higher than the minimum regulatory
requirement under the Basel norms of 8%. While Indian banks are relatively secure, a
sudden capital outflow especially from United States investors who stand claim to
USD8.5bn of assets of Indian banks is a threat that has always remained and is now being
realized.
Table 3.3: Key ratios of banks in India (2007/2008)

31

3.3.2 Diversified economic base helps

With a low trade/GDP ratio, India is less exposed to external shocks than East Asian
economies. Domestic demand is the key to Indian economic growth and here there are
reasons for confidence because of some favourable factors operating on consumer
spending:
Consumption: Domestic consumption is the largest contributor to the GDP (60% of the
GDP as of fiscal year 2007/08). India remains a largely rural country where the bulk of the
population remains in rural areas.
Investment: Private sector investment is about 30% of GDP. While public sector
investment will rise, investment is bound to suffer. With the real estate sector cooling off
rapidly, investment in residential and commercial construction in urban areas is likely to
fall. Tighter credit and lending conditions coupled with a drying up of informal credit will
hurt the unorganised sectors investment activity.
3.4 IMPLICATIONS FOR GDP GROWTH
India economic growth remained reasonably resilient through 2008 as the global financial
crisis turned into a global economic downturn. Indias GDP growth moderated to 7.6% in
3Q08 (Table 3.1), with deceleration evident in the growth of both goods producing and
service producing industries. Investment remained surprisingly strong in 3Q08, increasing
by 13.8% over the same period in 2008.

CHART 3.7

CHART 3.8

32

3.4.1 Consumption
Consumption moderated in 3Q08 and should moderate further as the impact of the global
slowdown feeds through to domestic households and businesses. A measure of consumer
spending - motor vehicle sales - dipped sharply towards the end of 2008 (chart 3.7). This
deceleration is also visible in the production number of consumer goods which is reacting
to the slowing demand of durable goods (chart 3.8).
There are reasons to expect consumer spending to hold up reasonably well. The indications
of the impact of weather on Indian agriculture are fairly positive for at least the first half of
2009, this is important in what is still largely a rural country. Consumer spending will also
be supported by a number of other factors. First, the Sixth Pay Commission awards will
continue contributing to boosting incomes in the public sector and sectors closely
associated with it, given the phased manner of its implementation. Second, the substantial
deceleration in inflation will bolster consumer confidence, providing some support to
consumer spending. Third, the rural sector will benefit from the farmer loan waiver
programme instituted by the government.
As global inflation cools, as slower growth in India introduces more slack in the economy
and as oil prices fall, inflation in India is decelerating rapidly. As of mid January 2009, the
inflation as measured by the wholesale price index has fallen to below 5% from a peak of
12.8% in Aug 08 (chart 3.10).

33

CHART 3.9

CHART 3.10

The positive factors supporting consumption mentioned above will probably suffice to
offset some of the headwinds emanating from the following:

As the revenues of domestic companies weaken, companies will be forced to

consider retrenchments and other forms of restructuring to reduce costs. Job
prospects in the two highly vulnerable industries exports and financial services are already becoming clouded. Recent announcements by the Commerce Ministry
project job losses from a protracted decline in exports could range between
700,000 and 1,000,000.

As argued above, prospects for both outsourcing and remittances appear to be

restrained in 2009.When incomes from outsourcing and remittances fall,
household incomes and spending will be bound to be adversely affected.

A weaker exchange rate has two effects. First, a weaker Rupee increases the prices
of imported consumer durables. But, second, it also offsets some of the benefits of
lower US Dollar prices of crude oil. However, since Indian consumers do not rely
heavily on imported goods, the damage from currency depreciation is likely to be
mild. Non-oil imports, a measure of domestic demand, have increased in 4Q08 due
to higher currency costs (chart 3.9).

3.4.2 Industrial production

34

Industrial production has decelerated through 2008, with all the main components affected.
Manufacturing with an 80% weight in the industrial production index has been particularly
hurt, falling 2% y/y in Dec 08 after falling 1.7% in Nov 08, the worst performance since
Mar 93 (chart 3.11).
CHART 3.11

CHART 3.12

3.4.3 Policy response

The Indian government, in coordination with the RBI, is using a three-pronged approach to
alleviate the impact of the global crisis on India. The government has introduced two fiscal
stimuli packages so far, the most recent one being on 4th January 2009.
3.4.4 Liquidity infusion and rate cuts
The RBI has noted in its last two statements that policy options have shifted from
controlling inflation to supporting growth.

Sharp reductions in policy rates: The repo rate has been cut from a peak of 9.0% in
Sep 08 to 5.5% in Jan 09 and the reverse repo from 6.0% in Nov 08 to 4.0% Jan 09
(Chart 3.12). These changes have only partially been passed on to borrowers.

Improving liquidity: The cash reserve ratio has been decreased from 9% to 6.5%
since Oct 08, releasing liquidity to the banking sector. The RBI has also opened a
special repo window under the Liquidity Adjustment Facility (LAF) for banks for
lending to non-banking financial companies (NBFCs), housing finance companies
(HFCs) and mutual funds.

35

Improve credit flows in trade finance: The RBI has also extended the period of preshipment and post-shipment credit for exporters and offered other counter cyclical
adjustments to augment the presently abysmal situation of trade financing.

3.4.5 Regulatory changes

To facilitate external financing, the government through its various regulatory bodies
settled for certain regulatory adjustments. For example, all ceilings on External Corporate
Borrowing (ECB) were removed in the most recent measures. In addition, FII in corporate
debt was also significantly raised.
3.4.6 Fiscal
Despite having little room for manoeuvre in the fiscal balance given the already large
fiscal deficits and the heavy burden of energy and other subsidies, the government has still
managed to introduce important off-budgeted fiscal changes described below:

Additional spending: Following the first supplementary budget which entailed

additional expenditure of INR 2.3tr in Dec08, the government introduced another
round of additional fiscal expenditure amounting to INR 556bn. However, because
many of the additional expenditure items related to new commitments made by the
government for other reasons (the Sixth Pay Commission pay increases for civil
servants and the farm loan waiver programme are examples), the actual amount of
discretionary additional spending is around 1% of GDP.

Infrastructure development: Taxation incentives for the Indian Infrastructure

Finance Company Limited which will help supply financing for infrastructure
projects.

Export encouragement: The stimulus packages paid special attention to exports

through refunding imported raw materials and financing facility as mentioned
earlier.

The government fiscal balance sheet was under pressure even prior to the outbreak
of the crisis, weighed down by recent policy decisions such as the farm loan waiver
programme, payouts recommended by the Sixth Pay Commission, the rural
employment guarantee scheme and the energy subsidies.
36

The Impact of the Global Economic Slowdown on South Asia by Manu Bhaskaran, Centennial Asia Advisors PTE LTD
Asian Development Bank.

3.5 INDIAN CONSTRUCTION INDUSTRY

Construction is an essential part on any countrys infrastructure and industrial
development. Construction industry, with its backward and forward linkages with various
other industries like cement, steel bricks etc. catalyses employment generation in the
country. Construction is the second largest economic activity next to agriculture. Broadly
construction can be classified into 3segments Infrastructure, Industrial and Real Estate.
Infrastructure segments involve construction projects in different sectors like roads, rails,
ports, irrigation, power etc. Industrial construction is contributed by expansion projects
from various manufacturing sectors. Real estate construction can be sub-divided into
residential, commercial, malls/multiplexes etc.
The construction activity involved in different segments differs from segment to segment.
Construction of houses and roads involves about 75% and 60% of civil construction
respectively. Building of airports and ports has construction activity in the range of 4050%. For industrial projects, construction component ranges between 15-20%. Within a
particular sector also construction component varies from project to project.
Construction sector contributed about 8.5% to the countrys GDP in FY 08. Over past few
years, growth of the construction has followed the trend of economic growth rate of the
country. The multiplier factor between growth rates of construction and GDP has been
about 1.5X-1.6X. Over past 3 years, construction as a percentage of GDP has increased
from 8.0% in FY 06 to 8.5% in FY08. Construction activity being labour intensive has
generated employment for about 33 million people in the country.

37

The construction industry in India is highly fragmented. There are number of unorganised
players in the industry which work on the subcontracting basis. To execute more critical
projects, nowadays bids are increasing placed in consortium. But the profitability of the
construction projects varies across different segments. Complex technology savvy projects
can fetch higher profit margins for construction companies as compared to low technology
projects like road construction. Various projects in Construction industry are working
capital intensive. Working capital requirement for any company depends on the order mix
of the companies.
The construction industry operates on the basis of contractual agreements. Over the years
different types of contracts have been developed. It mainly depends on the magnitude and
nature of work, special design needs, and annual requirements of funds and complexities
of job. Construction projects can be materialised through number of smaller contracts
which mainly depends upon size of the project and diversified nature of activities to be
carried out in the project. As a result, Subcontracting is a common phenomenon in the
construction industry.
In construction projects, on an average, raw material cost accounts for 30-50% of the total
cost major and subcontracting cost accounts for about 20-40%. Other costs include labour
cost, administrative expenses and other operating expenses. Since these costs are different
for projects in different segments, cost structure of a particular construction company
depends upon its order mix. Major raw materials consumed by construction industry
mainly include cement and steel. So any variation in the prices of these two basic raw
materials has a direct impact on cost of the project and in turn margins of the companies.
Almost all domestic cement consumption is attributed to the construction industry. The
primary steel requirements of the construction sector are long products like reinforcement
bars/rods, structure. Consumption of steel by construction industry has grown at a CAGR
of 16.1% over past 5 years.
The construction industry to a great extent is dependent on the investments in
infrastructure, industrial and real estate sector. Planning Commission has envisaged an
outlay of about Rs. 14,000 bn during Eleventh five year plan for infrastructure

38

development in the country. These investments in different sub segments of infrastructure

would be achieved through a combination of public, Public-Private-Partnerships. This total
investment would ultimately translate into an effective construction investment of about
Rs. 10,000 bn in next 4-5 years. Similarly, during the same period, construction industry
could also witness order inflow above Rs. 1,500 bn on the back of investments planned by
various manufacturing sectors. Real Estate segment also, throws opportunity of effective
construction investment above Rs. 1,000 bn over next five years. Reflection of the same
can be seen in bulging order book position of construction companies.
But the actual growth would be dependent on government infrastructure spending,
scheduling of proposed expansion projects by manufacturing sectors and some
macroeconomic factors which will govern investments in real estate sector. Going forward,
construction companies will also have to tackle key challenge of input cost pressure. With
rise in input prices for Cement and Steel industries, prices of these commodities are
expected to remain firm in the year FY 09. Along with this, delay in awarding of projects
by government can hamper the revenue growth and margins of construction companies.
The Report elucidates facts about the Indian Construction industry supplemented by latest
industry data and comprehensive analysis. Emphasis is laid on the following key subject
matters to accomplish the report.

Explanation of Construction component and overview of construction intensive

sectors Infrastructure, Industrial and Real Estate.

Brief on peculiar characteristics of industry (linkages with economy, labour

intensive, working capital intensive, fragmentation etc.)

Contract process along with different types of contracts has been covered.
Importance of Private participation and types of risk in a construction project.

Sectors influencing construction demand are discussed with special focus on subsectors within Infrastructure industry like road, rail, port, power, telecom etc.

Cost analysis with emphasis on overall cost structure, raw material cost,
subcontracting cost and evaluation of aggregate total income and operating profit
margin of the industry.
39

Researchs projection on effective construction investment emanating from

infrastructure, industrial sector and real estate based on construction component
along with order book position of top companies.

Challenges confronting the construction industry are discussed along with SWOT
analysis.

Operating & financial performance of top players in the industry along with future
outlook.

3.6 CONSTRUCTION SECTOR-OVERVIEW:

Today, India is the second fastest growing economy in the world. The Indian construction
industry is an integral part of the economy and a conduit for a substantial part of its
development investment, is poised for growth on account of industrialization, urbanization,
economic development and people's rising expectations for improved quality of living.
In India, construction is the second largest economic activity after agriculture.
Construction accounts for nearly 65 per cent of the total investment in infrastructure and is
expected to be the biggest beneficiary of the surge in infrastructure investment over the
next five years. Investment in construction accounts for nearly 11 per cent of Indias Gross
Domestic Product (GDP). 239.68 billion is likely to be invested in the infrastructure
sector over the next five to 10 years - in power, roads, bridges, city infrastructure, ports,
airports, telecommunications, which would provide a huge boost to the construction
industry as a whole.
Investment into this sector could go up to 93.36 billion by FY2010. With such bullish
prospects in infrastructure, affiliated industries such as cement are on a high. Cement
consumption, for the first time, is set to exceed the 150-million tonne mark. Reflecting the
demand for the commodity, capacity utilisation rose to over 100 per cent to touch 102 per

40

cent in January 2007 with despatches touching 14.10 million tonnes as against the
production of 14 million tonnes. As opportunities in the sector continue to come to the
fore, foreign direct investment has been moving upwards. The real estate and construction
sectors received FDI of 216.53 million in the first half of the current fiscal year.
3.6.1 Industry segments
Real Estate
Residential (Housing & Development)
Industrial (Industrial Parks, Factories, Plants, etc.)
Corporate (Office, Research Centres)
Commercial (Retail: Malls, Shops, Showrooms; Hotels; etc.)

Infrastructure
Roads
Railways
Urban infrastructure (improved housing, water supply and sanitation, schools,
universities, health and security, etc.)
Ports
Airports
Power
Indian Real Estate Sector
Real Estate is a 8 bn (by revenue) Industry in India. It is projected to grow to 34 bn by
2010. It has witnessed a revolution, driven by the booming economy, favourable
demographics and liberalised foreign direct investment (FDI) regime. Growing at a
scorching 30 per cent, it has emerged as one of the most appealing investment areas for
domestic as well as foreign investors.
The second largest employing sector in India (including construction and facilities
management), real estate is linked to about 250 ancillary industries like cement, brick and
41

steel through backward and forward linkages. Consequently, a unit increase in expenditure
in this sector has a multiplier effect and the capacity to generate income as high as five
times.
All-round Development
Rising income levels of a growing middle class along with increase in nuclear families,
low interest rates, modern attitudes to home ownership (the average age of a new
homeowner in 2006 was 32 years compared with 45 years a decade ago) and a change of
attitude amongst the young working population from that of 'save and buy' to 'buy and
repay' have all combined to boost housing demand.
According to 'Housing Skyline of India 2007-08', a study by research firm, Indicus
Analytics, there will be demand for over 24.3 million new dwellings for self-living in
urban India alone by 2015. Consequently, this segment is likely to throw huge investment
opportunities. In fact, an estimated 16 billion investment will be required over the next
five years in urban housing, says a report by Merrill Lynch.
Simultaneously, the rapid growth of the Indian economy has had a cascading effect on
demand for commercial property to help meet the needs of business, such as modern
offices, warehouses, hotels and retail shopping centres.
Growth in commercial office space requirement is led by the burgeoning outsourcing and
information technology (IT) industry and organised retail. For example, IT and ITES alone
is estimated to require 150 million sqft across urban India by 2010. Similarly, the
organised retail industry is likely to require an additional 220 million sqft by 2010.
Table 3.4 Output of Construction Industry

42

Turnov
er
Output
22467.7
1
1998-99
9
203721
24402.1
2
1999-00
1
241873
28179.0
3
2000-01
0
279464
33007.3
4
2001-02
0
306985
36450.9
5
2002-03
8
332382
44183.6
6
2003-04
7
375877
55996.2
7
2004-05
2
441234
65964.3
8
2005-06
2
601081
93616.2
GDP: 9
Construction
(at current prices7(new 748397
2006-07
series))
Mar-98
Mar-99
Mar-00126765.
Mar-01
Mar-02
Mar-03
10
2007-08
13
905730
74999
88784
102007
111999
12086
135172
109396.
5
11
2008-09
65 840943.6
119631. 913174.3
12
2009-10
81 (GDP) (at current
64
Gross domestic product at factor cost
prices )
129866. 985405.1
1
2
427
5
13
2010-11
973
Mar-98
Mar-99
Mar-00140102.
Mar-01 1057635.
Mar-02 Mar-03
14 1616082
2011-12
13
14019
1786526
1925017
209772689 22614
34
15
150337. 1129866.
15
2012-13
29
65
Sr. no

Year

Mar-04
15680
6

Mar-05
21281
2

Mar-06

Mar-07

264616

319497

Mar-08
36694
6

10

Mar-04
25381
71

Mar-05
28777
06

Mar-06
327567
0

Mar-07
379006
3

Mar-08
43036
54

Mar-04
77564
7

Mar-05
10137
61

Mar-06
127195
3

Mar-07
148778
6

Gross capital formation (GCF) (at current prices )

Mar-98
38580
8

Mar-99

Mar-00

Mar-01

Mar-02

408109

506244

511788

520655

Mar-03
61948
5

Gross Capital Formation: Construction (at current prices )

Mar-98

Mar-99

Mar-00

Mar-01

Mar-02

Mar-03

Mar-04

Mar-05

Mar-06

Mar-07

7349

8275

5504

9627

17370

18717

25120

33750

43018

50477

Global Majors
With the significant investment opportunities emerging in this industry, a large number of
international real estate players have entered the country. Currently, foreign direct
43

investment (FDI) inflows into the sector are estimated to be between 3 billion and 3.50
billion.

Jones Lang LaSalle (JLL), the world's leading integrated global real estate services
and money management firm, plans to invest around 646 million in the country's

burgeoning property market.

Dubai-based DAMAC Properties would invest up to 2.9 billion to develop

properties in India.
Merrill Lynch & Co bought 49 per cent equity in seven mid-income housing
projects of India's largest real estate developer DLF in Chennai, Bangalore, Kochi

and Indore for 243 million.

UAE-based real estate company Rakeen and Chennai-based mineral firm Trimex
Group have formed joint venture company - Rakindo Developers - which would

invest over 3 billion over the next five years.

Dubai-based Nakheel and Hines of the US have tied up with DLF to develop
properties in India. DLF has also formed a joint venture with Limitless Holding, a

part of Dubai World, to develop a 9 billion township project in Karnataka.

Gulf Finance House (GFH) has decided to invest over 1 billion in a greenfield
site close to Navi Mumbai.

3.7 GOVERNMENT INITIATIVES

The Government has introduced many progressive reform measures to unlock the potential
of the sector and also meet increasing demand levels.

100 per cent FDI allowed in realty projects through the automatic route.
In case of integrated townships, the minimum area to be developed has been

brought down to 10 hectares from 40 hectares.

Urban Land (Ceiling and Regulation) Act, 1976 (ULCRA) repealed by increasingly

larger number of states.

Enactment of Special Economic Zones Act.
Minimum capital investment for wholly-owned subsidiaries and joint ventures

stands at 9 million and 3 million, respectively.

Full repatriation of original investment after three years.
51 per cent FDI allowed in single brand retail outlets and 100 per cent in cash and
carry through the automatic route.

44

3.7.1 INFRASTRUCTURE
Power
Power generation capacity of 122 GW; 590 bn units produced (1 unit =1kwh),
Compound

Annual Growth Rate of 4.6% over the last four years

India has the fifth largest electricity generation capacity in the world
Roads
An extensive road network of 3.3 m km the second largest in the world
The Golden Quadrilateral (GQ-5846 km of 4 lane highways) North-South & East West
Corridors (NSEW-7300 km of 4 lane highways)
Railways
The premier transport organisation of the country - the largest rail network in Asia and
the worlds second largest.
7566 locomotives, 37,840 coaching vehicles, 222,147 Freight wagons, 6853 Stations,
300 Yards, 2300 Goodsheds, 700 Repair shops, 1.54 m Work force
Ports
12 Major Ports and 185 Minor Ports along 7,517 km long Indian coastline
100% FDI under the automatic route is permitted for port development projects
PublicPrivate partnership is seen by the Government as the key to improve Major and
Minor ports

Airports
India has 125 airports; of these, 11 are designated international airport.
100% FDI is permissible for existing airports; FIPB approval required for FDI beyond
74%
Privatization of the Delhi and Mumbai airports is in progress. Expected investment of
about 2.4 billion
New international airports - Bangalore & Hyderabad are being built by private consortia
total investment of about 411 million
25 other city airports are being considered for private investment.

45

Urban Development
Indias total urban population on 1st March 2007 was 285 million.
Allowing up to 100 % foreign direct investment (FDI) under the automatic route in
townships, housing, built-up infrastructure and construction-development project.
3.7.2 Opportunities
With the economy surging ahead, the demand for all segments of the real estate sector is
likely to continue to grow. The Indian real estate industry is likely to grow from 7 billion
in 2005 to 58 billion in by 2015.
Given the boom in residential housing, IT, ITeS, organised retail and hospitality industries,
this industry is likely to see increased investment activity. Foreign direct investment alone
might see a close to six-fold jump to 19 billion over the next 10 years.
There are a lot of opportunities that are sprouting up in the construction of Roads,
Railways, Airports and Power. Projects worth 1.872 billion are coming up to develop
Special Economic Zones.
India has a large and growing middle class population of 300 million people, out of which
a large section is need on new houses. It is estimated that there is a national housing
storage of 41 million units. Retailing is becoming the boom industry with organized retail
being a market of 4.494 billion. Water supply and sanitation projects alone offer scope for
annual investment of 4.27 billion. The Ministry of Power has formulated a blueprint to
provide reliable, affordable and quality power to all users by 2012. This calls for an
investment of 54.67 billion in the next five years.
The government of India has permitted FDI up to 100% for development of integrated
townships in India last year.
India's booming infrastructure sector is fuelling demand for all kinds of construction
equipment. Before the opening up of the Indian economy, and the entry of international
majors, much of infrastructure development and construction in the real estate sector was
done manually. But with the infrastructure and construction sectors undergoing dramatic

46

changes with 60-storeyed sky-scrapers being built in cities like Mumbai, and thousands
of kilometres of expressways and highways being laid across the subcontinent - builders
and contractors are acquiring sophisticated equipment to execute the multi-million-dollar
projects. For the construction equipment sector, which has adapted rapidly to the changed
scenario, this is indeed good news, as it paves the way for an exciting future.
3.8 RBI RESPONSE TO THE CRISIS
The financial crisis in advanced economies on the back of sub-prime turmoil has been
accompanied by near drying up of trust amongst major financial market and sector players,
in view of mounting losses and elevated uncertainty about further possible losses and
erosion of capital. The lack of trust amongst the major players has led to near freezing of
the uncollateralized inter-bank money market, reflected in large spreads over policy rates.
In response to these developments, central banks in major advanced economies have taken
a number of coordinated steps to increase short-term liquidity. Central banks in some cases
have substantially loosened the collateral requirements to provide the necessary short-term
liquidity.
In contrast to the extreme volatility leading to freezing of money markets in major
advanced economies, money markets in India have been, by and large, functioning in an
orderly fashion, albeit with some pressures. Large swings in capital flows as has been
experienced between 2007-08 and 2008-09 so far in response to the global financial
market turmoil have made the conduct of monetary policy and liquidity management more
complicated in the recent months. However, the Reserve Bank has been effectively able to
manage domestic liquidity and monetary conditions consistent with its monetary policy
stance.
This has been enabled by the appropriate use of a range of instruments available for
liquidity management with the Reserve Bank such as the Cash Reserve Ratio (CRR) and
Statutory Liquidity Ratio (SLR) stipulations and open market operations (OMO) including
the Market Stabilisation Scheme (MSS) and the Liquidity Adjustment Facility (LAF).
While in 2007 and the previous years, large capital flows and their absorption by the
Reserve Bank led to excessive liquidity, which was absorbed through sterilisation
operations involving LAF, MSS and CRR. During 2008, in view of some reversal in
47

capital flows, market sale of foreign exchange by the Reserve Bank has led to withdrawal
of liquidity from the banking system. The daily LAF repo operations have emerged as the
primary tool for meeting the liquidity gap in the market. In view of the reversal of capital
flows, fresh MSS issuances have been scaled down and there has also been some
unwinding of the outstanding MSS balances. The MSS operates symmetrically and has the
flexibility to smoothen liquidity in the banking system both during episodes of capital
inflows and outflows. The existing set of monetary instruments has, thus, provided
adequate flexibility to manage the evolving situation. In view of this flexibility, unlike
central banks in major advanced economies, the Reserve Bank did not have to invent new
instruments or to dilute the collateral requirements to inject liquidity. LAF repo operations
are, however, limited by the excess SLR securities held by banks.
While LAF and MSS have been able to bear a large part of the burden, some modulations
in CRR and SLR have also been resorted, purely as temporary measures, to meet the
liquidity mismatches. For instance, on September 16, 2008, in regard to SLR, the Reserve
Bank permitted banks to use up to an additional 1 percent of their NDTL, for a temporary
period, for drawing liquidity support under LAF from RBI. This has imparted a sense of
confidence in the market in terms of availability of short-term liquidity. The CRR which
had been gradually increased from 4.5 per cent in 2004 to 9 per cent by August 2008 was
cut by 50 basis points to be effective October 11, 2008 the first cut after a gap of over
five years on a review of the liquidity situation in the context of global and domestic
developments. Thus, as the very recent experience shows, temporary changes in the
prudential ratios such as CRR and SLR combined with flexible use of the MSS, could be
considered as a vast pool of back-up liquidity that is available for liquidity management as
the situation may warrant for relieving market pressure at any given time.
Global financial crisis and key risks impact on India and Asia Remarks by Dr Rakesh Mohan, Deputy Governor of the
Reserve Bank of India, 9 October 2008.

The relative stability in domestic financial markets, despite extreme turmoil in the global
financial markets, is reflective of prudent practices, strengthened reserves and the strong
growth performance in recent years in an environment of flexibility in the conduct of
policies.

48

Active liquidity management is a key element of the current monetary policy stance.
Liquidity modulation through a flexible use of a combination of instruments has, to a
significant extent, cushioned the impact of the international financial turbulence on
domestic financial markets by absorbing excessive market pressures and ensuring orderly
conditions. In view of the evolving environment of heightened uncertainty, volatility in
global markets and the dangers of potential spillovers to domestic equity and currency
markets, liquidity management will continue to receive priority in the hierarchy of policy
objectives over the period ahead. The Reserve Bank will continue with its policy of active
demand management of liquidity through appropriate use of the CRR stipulations and
open market operations (OMO) including the MSS and the LAF, using all the policy
instruments at its disposal flexibly, as and when the situation warrants.
3.9 REASONS FOR THE MELT DOWN IN INDIA
It is often argued that the main reason of slowdown in India is the international melt down.
However, a closer examination of the industry as it is organized in the country reveals that
there are other reasons too. Some of the reasons are as,

Excessive dependence on NRI portfolios: Virtually all the real estate developers
in the country have been focusing on NRI (Non Resident Indian) customers. There
is no doubt that NRIs have lot of money and have enough reasons to send back
monies into their country and invest in real property. However, Indian developers
have put all eggs in one basket and their started building only high end homes
which can only be afforded by the NRIs or extremely rich people in the country.
This has lead to a highly focused real estate industry catering to a singular stream
of supply- absorption. In the current situation of global meltdown, the excessive
dependence on one market segment has made things difficult for the developers.

Complete lack of addressal of affordable options: Over successive years, the

Indian real estate industry has completely chosen to ignore the middle income
segment of the market. As a matter of fact, there is a huge untapped demand in this
segment. However the developers only chose to cater to the demand of the high end
customers and not the budget customers. This is clearly evidenced by the fact that
49

when the prices have corrected and some developers have started making smaller
and affordable homes, the takeoff have increased.

Excessive dependence on IT/ITES sector: The Indian real estate sector has also
been focusing more on the information technology (IT) and information technology
enabled services (ITES) sectors. As a result, the focus on general commercial
space/ office space has got reduced to a great extent. Every developer wants to put
up in IT Park, rather than a multipurpose commercial complex as was being done
in the decades. This has also led to a narrow focus of the operations, neglecting
other requirement of the market.

Misplaced focus on global retail: Indian developers have also sucked into what
is popularly referred as the mall mania. A lot of efforts have been made in putting
all energies into the shopping malls and today, with too many malls, there is an
excessive supply in this sector. Business enterprises find it difficult to pay the high
rents and maintenance charges, given the kind of sales turnover that they get.

Inappropriate / skewed risk allocation: The Indian real estate industry has been
moving on the model of Inappropriate / skewed allocation of resources and as a
consequence, risk. On account of lack of appropriate risk allocation policy in place,
real estate markets, particularly developers, have been highly over leveraged. The
recent melt down has clearly indicated that such a policy of putting all eggs in one
basket syndrome has led to a sharp fall when the assumptions failed.

Absence of National Real Estate Regulator: India woefully lacks a national real
estate regulator which can holistically see the entire real estate market and industry
in a comprehensive manner and can advise national, state and local stakeholders to
appropriately structure policies, resource and business practices so as to steer the
industry in a path of safe navigation. In the absence of the above, real estate in
India happens in as many ways as it can, in an unstructured, disorganized and
incongruent manner.

Inappropriate state level real estate policies: In almost all states of the country,
the state governments have chartered their own ways of handling the real estate
sector by creating state level policies and partnerships, often ignoring the overall
50

market or social requirements and catering more to the narrow and short term
interests of revenue mobilization. As a result, we have many state governments
which promote luxury housing, shopping malls, IT/ITES projects, without taking a
comprehensive view of the overall requirements of the city and the society at large.

Lack of incentives for the right sizing the market: Policy itself is it national
level, state level, does not incorporate any incentive for a balanced market to
thrive. There are a whole lot of policies, related to taxation, renting, stamp duties,
etc. which offer little incentive or conducive conditions for the entrepreneurs to
participate in a meaningful manner.

Orthodox urban planning systems: Although it is now a well accepted notion in

India that centralized comprehensive town planning is a necessity for orderly,
healthy and sustainable development of human settlements, the activity of
urban/town planning is given little priority. Most settlements do not have
comprehensive master plans and those that have, do not have revisions in place;
often revised master plans take several years to get prepared and approved.

Primitive real estate investment avenues: The financial and investment

environment in the real estate sector in India has not adequately evolved despite
talk of the same over several years. The near absence of products such as real estate
mutual funds (REMFs) and the meager representation on the bourses have not
given a significant opportunity for creating alternative investment opportunities in
the real estate sectors for the small investors. Real estate investment in India often
mean only direct purchase of property and not in any other way and to that extent,
the market can be considered to be primitive.

3.10 EFFORTS OF THE GOVERNMENT TO TURNAROUND THE MARKET

The government of India has announced two major stimulus packages in less than two
months to ease the liquidity crisis in the market. For the domestic real estate sector, the
successive reduction in key bank rate are expected to soften interest rate for the home
buyers who have been faced with a difficult situation of high price and high cost of funds.

51

In the two fiscal stimulus packages announced by the government, there was a sizeable
component for housing in the sub Rs.20 lakh category. Banks which have claimed 65
percent of the Rs.4, 00,000 crore housing finance market have gone ahead and announced
special incentives for the affordable segment. Developers are readying plans to enter
what they call mid-range housing in a big way. The national housing bank (NHB), Indias
housing finance regulator, is making available Rs.4, 000 crore refinance window to
companies, which are keen to extend loans not exceeding Rs.20 lakhs.
In line with this package, public sector (PSU) banks have also come out with a set of
incentive that has affected the market positively. Interest rates for loans upto Rs.5 lakh
have been dropped to 8.5 percent from 9.25 percent. Further loans in the Rs. 5-20 lakh
category are now being offered at 9.25 percent. Nearly 80 percent of the banks home
loans are less than Rs. 20 lakh in size. In many cases, processing fee and prepayment
penalties have been waived.
The government of Andra Pradesh recently announced a major policy decision to lower the
stamp duty on registration of the houses less than 1,200 sft in size from 7 percent to 2
percent over a period of time, thereby reducing the transaction costs drastically.

By professor Dr.P.S.N. Rao and Head(Housing), SPA, New Delhi published in National Realty Vol.1 Issue-1,June 2009

CHAPTER 4
GOVERNMENT INITIATIVES DURING SLOW DOWN

52

4.1 MONETARY POLICY IN INDIA RESPOND TO THE GLOBAL FINANCIAL

CRISIS
As the crisis intensified, the Reserve Bank of India, like most central banks, took a number
of conventional and unconventional measures to augment domestic and foreign exchange
liquidity, and sharply reduced the policy rates. In a span of seven months between October
2008 and April 2009, there was unprecedented policy activism.
For example:
(i) The repo rate was reduced by 425 basis points to 4.75 per cent,
(ii) The reverse repo rate was reduced by 275 basis points to 3.25 per cent,
(iii) The cash reserve ratio (CRR) was reduced by a cumulative 400 basis points to 5.0 per
cent, and
(iv) The actual/potential provision of primary liquidity was of the order of Rs. 5.6 trillion
(10.5 per cent of GDP).
There are, however, some key differences between the actions taken by the Reserve Bank
of India and the central banks in many advanced countries:
First, in the process of liquidity injection the counter-parties involved were banks; even
liquidity measures for mutual funds, NBFCs and housing finance companies were largely
channeled through the banks.
Second, there was no dilution of collateral standards which were largely government
securities, unlike the mortgage securities and commercial papers in the advanced
economies.
Third, despite large liquidity injection, the Reserve Banks balance sheet did not show
unusual increase, unlike global trend, because of release of earlier sterilized liquidity.
Fourth, availability and deployment of multiple instruments facilitated better sequencing of
monetary and liquidity measures.

53

Finally, the experience in the use of pro cyclical provisioning norms and counter-cyclical
regulations ahead of the global crisis helped enhance financial stability.
By synchronizing the liquidity management operations with those of exchange rate
management and non-disruptive internal debt management operations, the Reserve Bank
of India ensured that appropriate liquidity was maintained in the system, consistent with
the objective of price and financial stability. The policy stance clearly reflected the forward
looking undertone, particularly the expectations of more prolonged adverse external
conditions in the face of no visible risks to inflation. While the magnitude of the crisis was
global in nature, the policy responses were adapted to domestic growth, inflation and
financial sector conditions. While the Reserve Banks balance sheet did not show unusual
expansion, sharp reductions in CRR raised the money multiplier, leading to higher increase
in broad money. The average money multiplier rose from 4.3 in March 2008 to 4.8 in
March 2009, reflecting lowering of CRR (Table 4.1). The increase in money multiplier
ensured steady increase in money supply consistent with the liquidity requirements of the
economy.
Money Multiplier can be expressed as [(1+c)/(c+r)], where, c is currency-deposit ratio (a
behavioral variable) and r is reserve requirement ratio (a policy variable). A reduction in r
leads to an increase in the money multiplier
Chart 4.1: Changes in Money Multiplier

Source: RBI report on Global Financial Crisis and Monetary Policy Response in India 12 Nov 2009
Global Financial Crisis and Monetary Policy Response in India by Deepak Mohanty, Executive Director, RBI on 12th
November, 2009

4.2 HOW DID MONETARY TRANSMISSION WORK?

54

In the wake of the crisis, monetary transmission broke down in several countries as risk
aversion gave rise to credit crunch. As regards India, the changes in the Reserve Banks
policy rates were quickly transmitted to the money and debt markets (Chart 4.2). The
money market rates moved in tandem with the policy reverse repo rate. However,
transmission to the credit market was slow due to several structural rigidities in the system,
especially the dominance of fixed term deposit liabilities in banks balance sheets at fixed
interest rates.
Chart 4.2: Transmission of Policy Rates to Money and Bond Markets

Source: RBI report on Global Financial Crisis and Monetary Policy Response in India 12 Nov 2009

As bank deposits contracted in the past at high rates have started to mature and banks have
significantly reduced their term deposit rates, the transmission of lower policy rates to the
credit market has improved with a lag (Chart 4.3).
Chart 4.3: Deposit and Lending Rates of Public Sector Banks

Source: RBI report on Global Financial Crisis and Monetary Policy Response in India 12 Nov 2009

55

56

4.3 THE ECONOMY - REVIEW AND PROSPECTS

The Indian economy exhibited significant resilience in 2008-09 in the face of an intense
global financial crisis and the subsequent severe global recession. The contagion from the
global crisis, however, posed the challenge of responding to the evolving risks and
heightened uncertainties, which warranted swift and appropriate use of fiscal and monetary
policy measures with a view to ensuring orderly functioning of the markets, preserving
financial stability, and moderating the dampening effects on growth. For the Government,
this involved temporary deviation from the fiscal consolidation process embodied in the
Fiscal Responsibility and Budget Management (FRBM) Act. The Reserve Bank had to
contend with the challenges over two distinct phases during the year, which required
contrasting monetary policy responses. In the first half of the year, inflation firmed up
under the pressure of hardening international commodity and food prices, which
necessitated an anti-inflationary policy response. In the second half, however, restoring
orderly conditions in the market and subsequently supporting the growth momentum
emerged as the key challenges. This required adoption of accommodative monetary policy
stance, which was reflected in the provision of ample liquidity at lower interest rates.
Consequently, the financial system functioned without disruptions and credit conditions
did not operate as a constraint to growth.
The deceleration in growth was broad based across three major constituent segments of
GDP, i.e. agriculture, industry and services. Moreover, deceleration in industry and
services sector also persisted over four consecutive quarters of the year. Reflecting the
contraction in global demand, exports declined. Domestic aggregate demand also
moderated due to sharp deceleration in the growth of private consumption demand.
Reflecting the expansionary fiscal policy response to the slowdown in growth, government
consumption demand increased by 20.2 per cent, and the contribution of government
consumption expenditure to overall growth accordingly increased to 32.5 per cent from an
average contribution of 5.9 per cent in the preceding five years. Corporate performance
remained dampened, with significant fall in sales growth in the second half of the year, and
decline in profits in last three consecutive quarters of the year. In 2009-10 so far, emerging
signs of recovery are yet to indicate any clear trend, and the deficient monsoon and the
57

depressed export performance have to be seen along with the improving growth in core
infrastructure sector, recovering industrial production and more optimistic business
outlook. Recognizing the balance of risks to growth, the First Quarter Review of Monetary
Policy for 2009-10 placed the projection for GDP growth at 6.0 per cent, with an upward
bias. The inflation environment remained highly volatile during 2008-09; WPI inflation
rose to a high of 12.9 per cent in August 2008 and declined sharply thereafter to below 1
per cent by the end of the year, before turning negative since June 2009. The currently
observed negative inflation essentially reflects the impact of the high base of the previous
year, and this transitory trend may not persist beyond few months. Within WPI, essential
commodities continue to exhibit high inflation.
Indias ascent as a major emerging market economy with high potential for sustained
robust growth was reflected in surges in capital inflows, which were in excess of the
external financing needs as conditioned by the countrys prudent emphasis on sustainable
current account deficit as a means to stable growth. The impetus for growth emanated from
the upsurge in the domestic savings rate from 23.5 per cent of GDP in 2001-02 to 37.7 per
cent in 2007-08, which facilitated the step up in investment rate from 22.8 per cent to 39.1
per cent during the corresponding period. Fiscal consolidation and reforms unshackled the
constraints to realization of productivity and efficiency driven growth. Before the
emergence of the global economic crisis in 2008-09, the high growth trajectory was
generally seen as the sustainable critical threshold, and accordingly the policy focus was
primarily shifting to address the growing infrastructure deficit and make progress on
remaining areas of reforms, while also ensuring that the growth process becomes more
inclusive.
Global developments prominently influenced domestic developments in 2008-09. There
were two distinct phases during which the transmission of global shocks posed different
but significant challenges for the Reserve Bank. In the first half of the year, the world
experienced simultaneous increase in both food and commodity prices, and there was a
return of inflation after a phase of great moderation. Dealing with supply side sources of
inflation posed significant challenges for the conduct of Reserve Banks monetary policy,
particularly in the face of emerging signs of cyclical slowdown on the one hand and the
risk of spiraling headline inflation affecting inflation expectations on the other. In the

58

second half of the year, the global financial crisis and the subsequent global recession
changed dramatically the nature of the challenge emanating from globalization. The sharp
swings in global conditions within the year were reflected in the fast slide of the world
economy into a deep recession from a phase of high growth over the preceding four
consecutive years. There was a sudden plunge to dysfunctional markets from a phase of
growing market bubbles that had brought down risk premiums to historic low levels. PostSeptember 2008, developments in the financial systems of advanced countries revealed
that irrespective of the degree of globalization of a country and the soundness of its
domestic policies, a global crisis could spread to every economy. The international
transmission of liquidity shocks was fast and unprecedented; while falling asset prices and
uncertainty about valuation of the traded instruments affected market liquidity, failure of
leading global financial institutions and the deleveraging process tightened the market for
funding liquidity. Given the growing risk of illiquidity cascading into solvency problems,
liquidity management acquired priority in most central banks, since it was critical for
preserving normalcy in financial markets, and thereby avoiding the risk of snowballing
effects of financial stress on the real economy.
Indias capacity to withstand the global shock better than many other emerging market
economies was partly on account of the sound macroeconomic and financial sector policy
environment that had been put in place in the post-reform period by careful assessment of
the opportunities and risks associated with reforms. After the balance of payments crisis in
the early 1990s, as a matter of concerted policy effort, the extent of dependence on
external finance for financing domestic growth has been limited to the sustainable level of
the current account deficit, and capital flows in excess of the financing needs have resulted
in comfortable foreign exchange reserves. The reserve management policy also assumes
importance in the context of the market determined exchange rate regime where the
Reserve Bank aims at containing undue volatility, recognizing the adverse effects of a
volatile exchange rate on trade, investment and growth. Despite significant pressures on
Indias balance of payments in the third quarter of the year, the foreign exchange reserves
facilitated Reserve Banks operations in the foreign exchange market to preserve orderly
conditions, notwithstanding a phase of high volatility over a short period of time. The
gradual and sequential approach to liberalization of the capital account also prevented
leveraging of the Indian financial system for taking positions in the troubled assets in the
59

advanced economies. Despite significant financial sector reforms, adequate regulatory

precautions have ensured that complex structures like synthetic securitizations do not
contaminate the Indian markets, and prudential measures also limit the exposure of the
banking system to sensitive sectors and asset price bubbles. Absence of structured products
that could mask risk exposures, hide interconnectivity of market operators and allow
excessive use of leveraged speculation has been a notable aspect of the Reserve Banks
prudence in regulation. Reserve Banks mandatory SLR requirement of 25 per cent (now
reduced to 24 per cent) also appeared relevant in the context of sharp deterioration in asset
quality that was experienced by the leading international banks and financial institutions.
More importantly, appropriate countercyclical regulations and provisioning requirements
also contributed to preventing development of asset price bubbles in India.
The Reserve Bank had taken measures to modulate the monetary overhang that was
building on account of sustained expansion in money growth; the withdrawal of monetary
accommodation had in fact started in 2004 with gradual increase in both repo and reverse
repo rates. Since April 2005 the Bank had also been expressing its concerns over the fast
growth in credit, and the overdrawn state of the banking system to sustain the credit
disbursement, given the mismatches between sources and uses of funds, and the associated
increase in the credit-deposit ratios for certain banks. Recognizing the unprecedented
credit growth to the real estate sector during 2004-07, the provisioning requirements and
risk weights were increased to prevent a buildup of asset bubble. Absence of any sovereign
issue in the international markets for financing the deficit of the Government has also
helped in limiting the effects of adverse external shocks on the macroeconomic policy
environment of the country. A large domestic market, reliance on domestic demand and
domestic savings for growth, comfortable foreign exchange reserves, prudent management
of the capital account and a sound and resilient domestic financial system, thus, represent
the key factors that helped in moderating the impact of the contagion on India in relation to
many other countries around the world.
The deceleration in growth from an average of 8.8 per cent during 2003-08 to 6.7 per cent
in 2008-09, however, warranted swift and comprehensive policy response, given the
overriding policy focus of maintaining a growth rate of around 9 per cent as the key means
to ensure higher living standards for all in an inclusive growth process. As the post-

60

September 2008 global developments affected the Indian markets through the global
liquidity spiral and sharp spurt in risk aversion, the Reserve Bank had to operate in several
markets simultaneously, with the use of conventional and unconventional measures, given
the overriding aim of restoring orderly market conditions and preserving smooth flow of
credit for all productive purposes.

4.4 ASSESSMENT OF 2008-09

4.4.1Economic Growth
The deceleration in growth, which started with the cyclical slowdown in the first half of
2008-09, got magnified in the second half due to the contagion from the global crisis.
Deceleration in growth to 5.8 per cent in two successive quarters in the second half of 200
8-09 represented the weakest growth in recent period; more importantly, while industrial
growth turned negative in the last quarter, the deceleration in services persisted in all
successive quarters of the year. The sharp moderation in GDP growth warranted
appropriate fiscal and monetary policy response, which was delivered swiftly, that too in a
forward looking manner in the second half of the year, in anticipation of the adverse
ramifications of the global crisis on the domestic growth.
4.4.2 Liquidity Management
In recent years up to the first half of 2008-09, increase in net foreign assets of the Reserve
Bank, reflecting the surges in capital flows, had become the dominant source for expansion
of base money. In the third quarter of 2008-09, however, the balance of payments came
under pressure, and the reserve drawdown that became necessary to finance the deficit in
capital inflows, led to corresponding contraction in base money. The Reserve Bank had to
more than offset the contraction in reserve money by expanding its net domestic assets
(NDA) so as to ensure necessary growth in money supply consistent with the needs of
economic growth, besides the provision of ample liquidity to alleviate any fear of liquidity
shortage in the Indian markets. The Reserve Bank ensured the necessary expansion in
NDA through conventional open market operations (OMOs) involving outright purchase
61

of government securities in the secondary market, as well as provision of liquidity through

acquisition of securities by repos under the LAF. Another instrument which allowed the
Reserve Bank to expand liquidity was the unwinding of the MSS securities.
The reduction in CRR by 4 percentage points released Rs.1,60,000 crore of liquidity to the
banking system. While the first round immediate impact of a reduction in the CRR leads to
corresponding fall in the reserve money, it implies higher money multiplier, which leads to
higher increase in broad money. Since moderation in reserve money growth was the result
of a deliberate expansionary policy action, the Bank had to emphasise the adjusted
reserve money indicator to communicate the monetary developments to the public.
4.4.3 Monetary Transmission
Despite persisting with the expansionary monetary policy stance in the post-September
2008 period, which was reflected in 400 basis points reduction in CRR, 4.25 percentage
point reduction in the repo rate, 2.75 percentage point reduction in reverse repo rate and
several other conventional as well as non-conventional windows for access to liquidity
(resulting in the availability of more than Rs.4,00,000 crore of additional actual/ potential
liquidity to the system by the end of the year), the transmission of monetary policy became
a matter of concern. The complete transmission of monetary policy takes place with long
and variable lags. But in the midst of a sudden reversal in risk perception, the risk
premium could increase significantly to often more than offset the magnitude of fall in the
policy rates. As a result, the cost of funds may not decline for the customers, or may even
increase, despite significant fall in the policy rates. This was experienced in several
advanced economies, where the yield spreads increased significantly at some stage,
reflecting heightened risk aversion. In India, while reassessment of risk was one of the
factors constraining the transmission of monetary policy, there were several other
structural factors in operation as well. First, the administered interest rate structure for
small savings restricts flexibility on deposit rates for the banks, as small savings could
potentially compete with deposits depending on the relative difference in the interest rates
offered on both savings instruments. Second, depositors often lock their deposits at the
high interest rate for longer term during a high interest rate phase; as a result, banks face
the constraint of reducing the cost of lending in a phase of economic slowdown since their
cost of funds remains high because of term deposits contracted earlier at higher rates. Till
62

the term deposits become due for maturity, at which stage the deposits could be renewed at
the lower rate, the banks experience structural rigidity in their balance sheet. Third, several
concessional administered loans to sectors like agriculture and exports are linked to the
BPLR, which works as a disincentive to revise the BPLR downwards even in the face of
falling policy interest rates and use of moral suasion by the Reserve Bank to emphasize the
need for lower lending rates as one of the means to support recovery in growth. Fourth,
banks often compete to mobilize bulk/wholesale deposits, and they have to prevent shifting
of such deposits to other banks, which creates the associated pressure to delay the revision
in interest rate to the extent possible. In the conduct of its policies, the Reserve Bank, as a
public institution, has to also remain sensitive to the interest of the depositors, given
particularly the role of high domestic savings in India in the high growth phase of 2003-08
and the relatively higher degree of insulation of Indian growth compared to most other
countries during 2008-09. Despite significant moderation in WPI inflation to below 1 per
cent by the end of 2008-09 and then to sub-zero level, CPI inflation at the retail level
continues to be high, and inflation expectations also have not receded at the same pace as
the WPI inflation. In view of these reasons, monetary policy effectiveness continues to
remain a challenge, which though is a universal concern and not specific only to India.
Since the last quarter of 2008-09, however, the deposit and lending rates have started to
moderate in response to the significant reduction in policy rates and sustained ample
liquidity in the system, besides the Reserve Banks constant emphasis on bet External
Contagion and Financial Markets
In the post-September 2008 period, the major concern for the Reserve Bank was to deal
with the knock-on effects of the global financial crisis. With sharp increase in the
overnight call rate in India to 13 per cent on September 16, 2008 and further to a peak of
19.8 per cent on October 10, 2008, the volume under the LAF repo window of the Reserve
Bank (which is used on a day-to-day basis by the banks for accessing liquidity) increased
from around Rs.12,500 crore in the first half of September 2008 to Rs.68,000 crore in the
second half of the month, and further to Rs.90,000 crore in early October 2008.
4.4.4 Reserve Banks Responses to the Contagion
For enhancing the availability of domestic liquidity, besides the usual reduction in CRR,
greater access under the LAF through repos, and unwinding of the MSS securities, several
63

other conventional as well as unconventional instruments were also used depending on the
nature and expected magnitude of the demand for liquidity, such as a second LAF window
providing access to liquidity in the afternoon as against the normal LAF access in the
morning, special 14 days repo facility using SLR eligible securities up to 1.5 per cent of
NDTL for meeting the liquidity needs of NBFCs, housing finance companies and mutual
funds, advance release of money at the request of the Government to the banks towards
Agricultural Debt Waiver and Debt Relief Scheme, increase in export credit refinance limit
for commercial banks, and special refinance facilities for specialized financial institutions
such as the SIDBI, NHB and EXIM Bank. The additional liquidity that was made available
exceeded Rs.4, 00,000 crore (by the end of the year), which is unprecedented and
amounted to 7.9 per cent of GDP.
Besides the actual intervention sales in the foreign exchange market, the Reserve Bank
also opened the forex swap facility for the banks. To ease the demand pressure from oil
importing companies during the high and rising phase of international prices, the Bank had
already started special market operations in the secondary market through commercial
banks involving direct supply of forex liquidity against the oil bonds of the public sector
oil marketing companies. The policy measures that aimed at improving the supply of forex
liquidity included permitting banks to borrow from their overseas branches within
prudential limits, relaxing further the external commercial borrowing policy, including
allowing NBFCs and housing finance companies to borrow in foreign currency, and raising
the interest rates on NRI deposits. Notwithstanding the demand pressure in the forex
market, in view of depressed international asset prices, the corporates were permitted to
prematurely buy back their FCCBs at prevailing discounted rates.
With a view to further strengthening the domestic banking sector, the Reserve Bank also
undertook a number of other regulatory initiatives, which include: (i) review of prudential
framework for off balance sheet exposures of banks covering issues like risk weights,
provisioning and credit conversion factors; (ii) strengthening of systems for monitoring
large un-hedged foreign exchange exposure of corporates; (iii) enhancing cross border
supervision and consolidated supervision of bank led conglomerates; (iv) reviewing
supervisory framework for monitoring the activities of Special Purpose Vehicles(SPVs)
and trusts set up by banks; (v) reviewing the appropriateness of the current supervisory

64

framework for monitoring the overseas operations of Indian banks; (vi) issuing guidelines
on managing maturity mismatch for addressing liquidity risks in the very short run; (vii)
discouraging the practice of excessive reliance on call money borrowing by linking the
borrowings to banks capital; and (viii) modifications to guidelines on restructuring of
advances. Despite the risk of contagion from the global financial crisis, the Indian banking
system remained sound and resilient, as evident from the soundness indicators like capital
adequacy, asset quality and profitability for 2008-09. While the capital adequacy level for
the banking system was at 13.2 per cent at the end of the year, each individual bank was
above the minimum 9 per cent capital adequacy requirement prescribed by the Reserve
Bank. Stress-testing findings of the Committee on Financial Sector Assessment (CFSA)
also suggested the resilience of the financial system and the adequacy of capital levels.

4.4.5 Impact of the Reserve Banks Actions

Responding to the large and comprehensive domestic liquidity measures, the inter-bank
call rate reverted to within the LAF corridor or around the ceiling by the end of October
2008 and the LAF window also moved from net injection to net absorption mode,
indicating the surplus liquidity conditions in the system since November 2008. Reflecting
the measures taken for improving the availability of forex liquidity, the average exchange
rate of the rupee which had depreciated sharply from Rs.40.02 per US dollar at the
beginning of April 2008 to Rs.51.23 per US dollar in March 2009, has appreciated since
then to around Rs.48.0 per US dollar in the first half of August 2009. The 10-year
benchmark government securities yield also softened from the October 2008 levels by the
end of the year, despite significant increase in market borrowings in the second half of the
year. Thus, the transmission of the Reserve Banks policies to the money, forex and the
government securities markets has been effective, thereby ensuring speedy restoration of
orderly conditions over a short time span.
4.4.6 Disinvestment
In the context of options for faster return to the fiscal consolidation path, mobilization of
resources through disinvestment has been highlighted in some quarters. With the setting up
of National Investment Fund (NIF), all the proceeds from disinvestment of Central Public
65

Sector Enterprises (CPSEs) are required to be routed to it, which is maintained outside the
Consolidated Fund of India. There is a need to step up disinvestment for greater resources
mobilisation.
4.4.7 Subsidies
Management of subsidy has posed a persistent policy challenge. The high fertilizer prices
prevailing in global commodity markets during the first half of 2008-09 and the enhanced
minimum support price for wheat and rice led to sharp increases in fertilizer and food
subsidies in 2008-09 (RE) by Rs.44,863 crore and Rs.10,960 crore, respectively, over the
budget estimates. Apart from these subsidies, which are explicitly provided for in the
Budget, implicit subsidies provided for by way of issue of special securities to oil and
fertilizer companies amounted to Rs.75,849 crore and Rs.20,000 crore, respectively, in
2008-09 so as to compensate for under recoveries. This has added to the subsidy burden of
the Government. Without explicit mandated provisions to cap expenditure on subsidies,
needs for greater public investment in infrastructure, both physical and social, could be
sacrificed as an outcome associated with higher subsidies.
4.4.8 Infrastructure
Indias high growth trajectory has exerted significant pressures on the available physical
infrastructure, and infrastructure deficit is widely recognized as a major constraint to
attracting foreign investment and promoting efficiency in production in India. The
Eleventh Five Year Plan envisages stepping up of the gross capital formation in
infrastructure from 5 per cent of GDP in 2006-07 to 9 per cent of GDP by end of the Plan
period in 2011-12, and this could be critical to achieve the 9 per cent growth. The large
financing requirement that is necessary to almost double the investment in infrastructure
has to be also seen in the context of challenges for investment in both public and private
sectors. Public investment continues to dominate the infrastructure sector in India and
when the Government is expected to go through an exit phase to revert to the fiscal
consolidation path, accelerating the pace of public expenditure for infrastructure could
become difficult. In attracting private investment to infrastructure projects, the challenge is
to make the investment attractive enough in terms of expected return on capital while also
being fair to the consumers and actual users of the infrastructure. Moreover, besides the

66

current focus on growth, improving the quality of life through provision of modern
physical and social infrastructure should also be given greater importance.
4.4.9 Policy Challenges
The macroeconomic conditions in 2009-10 so far and the expected outlook for growth and
inflation suggest that there are clear policy challenges for the Reserve Bank as well as for
the economy in the near as well as medium-run.
A major near-term challenge for the Reserve Bank is to deal with the unpleasant
combination of subdued growth with emerging risk of high inflation, which poses a
complex dilemma on the appropriate stance of monetary policy. In such conditions, while
withdrawal of monetary accommodation entails the risk of weakening recovery impulses,
sustained accommodation and the associated protracted phase of high money growth can
only increase inflation in future.
Secondly, large borrowing programmes and high fiscal deficits complicate the challenge
even further by accentuating inflationary expectations, which could worsen the actual
inflation situation over time while also putting upward pressure on interest rates.
Thirdly, for any early signs of recovery to gain momentum, private sector credit must
grow. Better monetary policy transmission that could enhance the demand for credit is a
key challenge, notwithstanding the usual dynamics of any credit market which may not
respond to monetary policy actions.
Finally, with the return of capital inflows to the pre-crisis period and revival in demand for
credit from the private sector, the costs of any delay in withdrawal of monetary
accommodation and fiscal consolidation could increase.
For the Reserve Bank, there are other medium-term issues associated with globalization as
well international initiatives on revamping the architecture for promoting financial
stability. While openness offers a number of benefits, it increases the risks from external
demand and capital flows. Swings in capital flows and sudden stops can have a significant
impact on exchange rates, domestic monetary and liquidity conditions and overall
macroeconomic and financial stability.

67

For promoting financial stability, the new international initiatives in response to the global
financial crisis have to be monitored and examined, with an emphasis on country-specific
relevance, and the future approach to financial sector reforms may have to be based on
lessons from the recent crisis.
The single mandate linked to inflation objective has often been highlighted as a necessity
for ensuring a better inflation environment, but given the importance of other objectives
for a country of Indias size and diverse needs, the operational relevance of an inflationcentric mandate has to be examined carefully.

RBI Annual Report for 2008-09 by Alpana Killawala Chief General Manage 27 Aug 2009
Summary of the Annual Report of RBI for the year ended June 2009 on 27/08/2009 by S.V. Raghavan( Chief General
Manager) , K.C. Chakrabarty ( Deputy Governorv), Usha Thorat (Deputy Governor) , Shyamala Gopinath (Deputy
Governor) , D. Subbarao (Governor )

4.5 BUDGET EXPECTATION

The infrastructure sector and the recession-hit real estate sector are looking forward to the
Union budget with great expectations. Both the sectors, which require huge investments,
are expecting a big boost to revive growth and put them on the path of recovery. The
Presidents address to Parliament has sought to give a big boost to the infrastructure sector,
plagued by bottlenecks with slow movement in the development of ports, roads and
airports. However, it is expected that apart from granting industry status to infrastructure,
the budget will give impetus to investments in the sector.
Global consultant Goldman Sachs expects a leap in infrastructure spending, particularly on
roads and ports. It is estimated that India will require $500 billion over the next five years
in the sector to sustain the growth momentum. The budget is expected to give a big push to
Public-Private Partnership (PPP) projects. Greater flexibility could be given to the India
Infrastructure Finance Company Limited (IIFCL), which has been set up as a refinancing
facility for infrastructure projects, to deploy funds. Double the capacity According to the
68

Planning Commission, India may need to nearly double its capacity of ports, roads, power,
telecom and airports to keep pace with its growth. Companies engaged in infrastructure
development are expecting some relief for lenders to enable them to achieve financial
closure of much delayed projects.
There is an expectation that the proposal to restore tax exemption under Section 10 (23G)
could be introduced in the budget to be presented by Finance Minister Pranab Mukherjee
on July 6. This Section allows tax exemption for investments in infrastructure, both via
equity and debt. The real estate sector is looking forward to relief for the housing sector,
which has been reeling under the recessionary trend for the last few months. Real estate
developers want interest rates lowered to make cheap loans available, which will give a
boost to the housing sector and generate demand.
According to Rohtas Goel, CMD, Omaxe Limited, developers are facing acute liquidity
crunch and facing difficulties in servicing debts. Restructuring allowed up to June 2009
has provided immense relief. As the recovery is likely to take more time, further
restructuring should be allowed, wherever required. Group housing and integrated
township development should be brought within the definition of infrastructure and
incorporated in the explanation under sub-section 4. The housing sector should be granted
the status of industry for all concessions, rebates and easy finances, Mr. Goel said.
Saviour Builders director Sanjay Rastogi says the budget should lower interest rates and
recognize real estate as an industry. He feels strict norms should be introduced to control
the prices of steel and cement to stabilize the industry. The Royal Institution of Chartered
Surveyors (RICS) said the government should increase the housing loan interest deduction
limit to Rs. 2.5 lakh or Rs. 3 lakh per annum and lower interest rates to 7.5 per cent for
loans in the range of Rs. 5 lakh to Rs. 30 lakh.
The RICS expected re-introduction of concessions under Section 80IB (10) of the Income
Tax Act, encouraging construction of small units at affordable prices. It expected waiver or
reduction in stamp duty, value-added taxes and other government taxes for economically
weaker sections and lower income group housing; restoration of tax holidays for low-cost
housing projects; further relaxation of the external commercial borrowing and Foreign
Direct Investment norms; and rationalisation of stamp duty and registration charges.

69

4.6 INITIATIVES IN REAL ESTATE SECTOR

4.6.1 Slowdown in real estate
Table 4.2 : Financial Results of Major Real Estate Developers(Rs. Million)

No
.

Company

Housing Development &

Infrastructure Limited

Net
Profit
( Quart
er
ended)
Decem
ber
2008
1848.8

70

Net
Profit
for 9
months
ended
Dec- Decemb
07 er 2008

Change Over
quarter ended
(%)
Sep08
-30.41

-31.58

6592.9

Change
over 9
months
ended
Decem
ber
2007
(%)
-6.11

2
3
4
5
6
7
8
9
10
11
12
13
14
15
16

DLF Limited
Anant Raj Industres Ltd.
Peninsula Land Ltd.
Unitec Ltd.
Akruti City Ltd
Phoenix Mills Ltd.
Purvankara Projects Ltd.
Mahindra Lifespace
Developers Ltd.
Sobha Developers Ltd.
India Bulls Real Estate Ltd.
Parsvnath Developers Ltd.
Omaxe Ltd.
Ansal Properties &
Infrastructure Ltd.
Brigade Enterprises Ltd.
Alchemist Reality Ltd.

1780.6
657.04
277.5
195
190.8
147.5
146.9

-72.14
-48.01
-49.17
-95.31
-90.07
-61.85
-68.78

-70.61
-45.82
-26.7
-94.71
-73.55
-14.05
-74

44700
2012.5
1135.6
7363.7
3827.3
644.5
1298.33

-42.78
-39.06
8.11
-13.85
88.1
100.2
-22.41

113.9

0.98

1.16

322.6

-25.37

75
67.78
53.38
49.1

-84.69
-1.47
-76.64
-91.61

-87.72
-98.35
-95.34
-96.01

1025
324.32
994.91
1099.48

-35.21
-90.87
-66.82
-62.63

28.3

-88.37

-94.21

1330.5

-17.65

21.99
1.89

-94.31
52.41

-94.02
-77.28

1122.52
7.43

1.28
-80.61

Source - Bombay Stock Exchange, Company press releases

Table 4.3 Financial Results of Housing Finance Companies

No.

Company

Net
Profit
( Quart
er
ended)
Decemb
er 2008
(Rs.
Millions
)

71

Change Over
quarter ended
(%)

Sep08

Dec-07

Interest Earnings
growth over 9
months ended (%)

Dec-08

Dec-07

LIC Housing Finance

Ltd.

Housing Development
Finance Company Ltd.

Diwan Housing Finance

Compnay Ltd.

1343.32

-0.54

26.7

12.42

8.62

5468.3

2.36

-15.73

12.29

8.49

232.1

5.23

1.82

13.53

14.03

GIC Housing Finance

100.4
-33.16
4.25
Ltd.
28.29
5 Gruh Finance Ltd.
118 43.73
15.69
16.37
6 Can Fin Homes Ltd.
77.13
-8.35
15.71
3.31
Source - Bombay Stock Exchange, Company press releases
4

4.6.2 New Government Initiatives to Boost Real Estate Sector in India

At the Government level many new policy initiatives have been taken recently to boost the
real estate sector in India. These policy decisions will lend a stimulus and impetus to the
industry. It is beyond doubt that the new initiatives will unlock the potential of the sector.
Also, along with the stimulus package announced by the Government, the Reserve Bank of
India (RBI) has taken a definitive step whereby banks are allowed to devise new schemes
beneficial to the property sector.
As part of the Government initiatives to boost real estate boom sector India, RBI has
declared concessional schemes for the real estate sector. Such initiatives include:

Urban Land (Ceiling and Regulation) Act, 1976 (ULCRA) repealed by increasingly
larger number of states.

In case of integrated townships, the minimum area to be developed has been

brought down to 25 acres from 100 acres.

51 per cent FDI allowed in single-brand retail outlets and 100 per cent in cash-andcarry through the automatic route.

Full repatriation of original investment after three years.

Minimum capital investment for wholly-owned subsidiaries and joint ventures

stands at US$ 10 million and US$ 5 million, respectively.
72

5.08
9.3
3.21

100 per cent FDI allowed in realty projects through the automatic route.

Further, in its endeavour to initiate new policies to boost the real estate sector in India, the
Ministry of Commerce and Industry, Government of India, has taken steps to reduce the
time taken to develop special economic zones (SEZs) by simplifying the procedures to get
the tax-tree industrial enclaves notified. Now developers can easily get their land classified
as an SEZ at the outset itself by producing title deeds to prove their ownership. Again, the
government has announced several concessions in the Budget 2008-2009.
New Government initiatives to boost sector of Real Estate India include granting a tax
holiday on profits from initiates in the financial year 2007-2008. In order to enjoy this
benefit, the housing projects should be of the affordable housing unit type of 1000 to 1500
square feet. Another condition is that such projects should be completed by March 1, 2012.
Further, the Finance Ministry has allocated US$ 207 million to grant 1% interest subsidy
on home loans up to US$ 20, 691. In order to avail this benefit, the cost of the home
should not be above US$41, 382. It is believed that these initiatives will be add further
impetus to the real estate sector in the country.
4.7 INITIATIVES IN INFRASTRUCTURE SECTOR
The global financial malaise has had a significant feed-through effect to India. According
to a report in late October in India's daily Business Standard, the interest rates for project
financing operations rose to14% -16% from 9%-11% before the summer. This jeopardises
the financial viability of highway projects worth over US$2bn, which in turn represent
approximately 40% of projects that have been approved by the National Highways
Authority. This of course will delay the realization of the government's ambitions to fast
track highway construction through the National Highway Development Programme, the
first phase- the multi-billion dollar Golden Quadrilateral programme.
India's infrastructure sector has registered strong growth in recent years, with 2006 and
2007 witnessing real construction sector growth of 20% and 14% per annum respectively,
thanks to strong activity by both private and public sources. This development has been
spurred by a virtuous cycle of strong economic growth, rising government revenues and
foreign investment, which has begun to pull the under-developed infrastructure sector up
73

by its bootstraps. However, this progress is now threatened by the global financial crisis
and economic downturn, which has seen foreign investment, flows to the country reverse.
Exports are also under pressure, undermining economic growth and government revenues.
As such, future funding for infrastructure from both the public sector and the private sector
is very much threatened.
The government is attempting to find ways to underpin the infrastructure sector, and the
economy as a whole. One proposal is for the government to subsidies loans by effectively
setting a ceiling lending rate and absorbing the costs of the higher rates. But the
government's ability to fund such projects has its limits, given its own significant (and
growing) fiscal constraints. In this context, rating agency Fitch has expressed considerable
concerns about the outlook for the infrastructure sector, especially given that many key
projects require imminent refunding. This pending refinancing and debt re-structuring
could not have come at a worse time, according to the rating agency.
On the plus side, multilateral support is significant. As reported in December 2008, India
was granted anew US$3bn loan from the World Bank for infrastructure spending. For the
time being, we have revised down our forecast for real growth in India's construction
sector to 5.7% in 2009, from a previous forecast of over 10%. We estimate real
construction sector growth in 2008 to have been just under 9%, compared to just over 14%
in 2007.
For 2010, we currently forecast that real construction sector growth will rebound to 9%.
Risks to our forecasts are very much to the downside. Much depends on how prolonged
the recession in developed markets lasts, and whether the financial crisis will resurface.
Our core global scenario envisages a recovery in most key markets in 2010, but the
outlook is extremely uncertain & this scenario is by no means guaranteed.
Indeed, the US (and other economies) could remain in recession in2010, further starving
India of export revenues and capital to finance its infrastructure development, just at a time
when major projects are due to be refinanced. As such, there is a particularly severe
downside risk to our 2010 infrastructure forecasts.

74

India Infrastructure Report Q1 2009 February 2009 Published By: Business Monitor International

4.7.1 Summary of Key Infra Projects

The infrastructure recovery and assets (INFRA) platform is design to support countercyclical spending on infrastructure and project existing assets and priority with the
intention of providing the foundation for rapid recovery and job creation and to promote
long term growth. Building on the $17.5 billion committed for infrastructure sectors in FY
09, the bank has already committed another $4.3 billion in the first quarter of FY 10. The
operations implemented under the infra platform have used the full range of World Bank
tools and instruments ranging from development policy loans to additional financing.
The South Asia economies have also been negatively impacted by global crisis. The
growth outlook of South Asia has been nearly halved from a peak GDP growth rate of 9%
in 2006 to nearly 5 % in 2009. There has been tightening of credit markets as seen in
portfolio outflows, decline in external commercial borrowing, and an increase in spreads.
These have created difficult conditions for undertaking large infrastructure investments.
Towards mitigating the impact of the crisis on infrastructure sector, the Bank approved
$1.9 billion for infrastructure in the region in FY2009 and $2.2 billion in the first quarter
of FY2010. Some key interventions have taken place in India.
The impacts of the global crisis on the Indian economy have been more severe than
initially anticipated; the demand for export has fallen, domestic credit is constrained, and
there has been a reversal of capital flows into India. New infrastructure projects have run
into delays caused by problems in securing the necessary financing. The Indian
Government has reacted promptly and effectively to the crisis. Three fiscal stimulus
packages were announced, accompanied by a series of monetary and financial measures to
inject liquidity and support credit growth through the banking system. There is now
widespread recognition that an expand program of investment in much needed
infrastructure id the appropriate response not just to sustain the domestic economy at a
time if reduced global demand, but even more to lay the foundation for strong future
growth. To help maintain credit growth and continue infrastructure investments, the Bank
has committed in $2.2 billion to infrastructure sectors in India in the first quarter of
FY2010, following the $0.9 billion committed in FY2009. Key interventions include:

75

$1.2 billion for the India infrastructure finance company Ltd.(IIFCL) (September
2009) to catalyze private financing to publics private partnerships in (PPPs) in
infrastructure and stimulate the development of a long term local currency debt

financing market
$1 billion for the Fifth Power System Development Projects (September 2009) to
help address Indias acute deficit of power. The loan will help strengthen five
transmission systems in the northern, western and southern region of the country.
This will facilitate the transfer of power from energy surplus regions to towns and

villages in under- served regions of the country.

$150 million for the Andhra Pradesh Rural Water Supply and Sanitation project
(September 2009), to improve water supply and sanitation services in 2,600
villages across 6 districts of the state. The project aims to provide piped water to
2.1 million people and extend sanitation services to 1 million people who currently
do not have access

4.7.2 Budget 2009-10 lays major emphasis on infrastructure

The budget has laid major emphasis on infrastructure development. The government
proposes to ensure that IIFCL is given greater Infrastructure flexibility to aggressively
fulfill its mandate.
To ensure that infrastructure projects do not face financing difficulties arising from the
current downturn, the Government has decided that IIFCL will refinance 60 per cent of
commercial bank loans for PPP projects in critical sectors over the next fifteen to eighteen
months. The IIFCL and Banks are now in a position to support projects involving a total
investment of Rs.100 thousand crore in infrastructures. Combined with the steps that are
taken to increase public investment in infrastructure, this will provide a big boost to such
investment.
4.7.2.1 Highway and Railways
The allocation during the current year to National Highways Authority of India (NHAI) for
the National Highways Development Programme (NHDP) is being stepped up by 23 per

76

cent over the 2008-09 (BE). Allocation for the Railways has been increased from Rs.10,
800 crore made in the Interim Budget for 2009-10 to Rs.15, 800 crore.

4.7.2.2 Urban infrastructure

The Jawaharlal Nehru National Urban Renewal Mission (JNNURM) has been an
important instrument for refocusing the attention of the State governments on the
importance of urban infrastructure. In recognition of the role of JNNURM, the allocation
for this scheme is being stepped up by 87 per cent to Rs.12, 887 crore in the current
budget. To improve the lot of the urban poor, allocation has been enhanced for housing and
provision of basic amenities to urban poor to Rs.3,973 crore in the current years budget.
This includes the provision for Rajiv Awas Yojana (RAY), a new scheme announced in the
address of the President of India. This scheme, the parameters of which are being worked
out, is intended to make the country slum free in the five year period.
4.7.2.3 Brihan Mumbai Storm Water Drainage Project (BRIMSTOWA)
To address the problem of flooding in Mumbai, Brihan Mumbai Storm Water Drainage
Project (BRIMSTOWA) was initiated in 2007. The entire estimated cost of the project at
Rs.1, 200 crore is being funded through Central assistance. A sum of Rs.500 crore has been
released for this project upto 2008-09. Allocation has been enhanced for this project from
Rs.200 crore in Interim BE to Rs.500 crore to expedite the completion of the project.
4.7.2.4 Power
The Accelerated Power Development and Reform Programme (APDRP) is an important
scheme for reducing the gap between power demand and supply. Allocation for this
scheme has been increased to Rs.2, 080 crore, a steep increase of 160 per cent above the
allocation in the BE of 2008-09.
4.7.2.5 Gas
With the recent find of natural gas in the KG Basin on the Eastern offshore of the country,
the indigenous production of Natural Gas is set to double with natural gas emerging as an
important source of energy. LNG infrastructure in the country is also being expanded.
77

Government proposes to develop a blueprint for long distance gas highways leading to a
National Gas Grid. This would facilitate transportation of gas across the length and breadth
of the country.

Budget 2009-10 lays major emphasis on infrastructure published on July 6, 2009

4.7.2.6 Assam Gas Cracker Project

The Assam Gas Cracker Project sanctioned in April 2006 is being executed at a cost of
Rs.5,461 crore. The capital subsidy of Rs.2, 138 crore for the project is to be provided by
the Central Government. The outlay for this project is being stepped up suitably.
4.7.3 Government increases infrastructure funding
Infrastructure development continues to be a priority area for the United Progressive
Alliance (UPA) government with Finance Minister Pranab Mukherjee increasing public
investment in this sector. The investment in infrastructure for the growth of economy is
critical that have made the policy makers in the central and state governments to remove
policy, regulatory and institutional bottlenecks for speedy implementation of infrastructure
projects, To ensure that infrastructure projects do not face financing difficulties arising
from the current downturn, the government has decided that IIFCL will refinance 60
percent of commercial bank loans for PPP (public-private partnership) projects in critical
sectors over the next 15 to 18 months.
According to Finance Minister, IIFCL (India Infrastructure Finance Co Ltd) and banks are
now in a position to support projects involving a total investment of Rs.100, 000 crore.
The minister also increased by 23 percent the allocation for National Highways Authority
of India (NHAI) for road development in the country. Also, the budget allocation for the
railways has been increased from Rs.10, 800 crore made in the interim budget to Rs.15,
800 crore.
In order to step up urban infrastructure, the finance minister increased allocation for the
Jawaharlal Nehru National Urban Renewal Mission by 87 percent to Rs.12, 887 crore in
the current budget. Apart from that, Finance Minister has also proposed to enhance the
allocation for housing and provision of basic amenities to urban poor to Rs.3,973 crore in
78

the current years budget. Similarly, allocation for rural roads scheme raised by 59 percent.
The government has also decided to raise the allocation to Bharat Nirman, a rural
infrastructure development project, by 45 percent.

Newsletter: Government increases infrastructure funding published on July 6th, 2009

4.7.4 World Bank approves $4.3-bn loan for India

The World Bank has approved $4.3 billion in loans for India to help finance infrastructure
projects and support its economic stimulus programme. Of the total loan, World Bank said
it would provide $2 billion to Indias banking sector designed to expand the volume of
credit available to firms. The bank also sanctioned $1.2 billion for the India Infrastructure
Finance Co for financing public-private partnerships in infrastructure and to stimulate the
development of a long-term local currency debt financing market.
In addition, the World Bank approved $1 billion to address Indias acute power shortages
by assisting the Power Grid Corp, the national electricity distribution company, with its
investment programme after a freeze in overseas lending. The bank also provided $150
million to Andhra Pradesh to improve water supply and sanitation services for 2,600
villages across six districts. The loans are part of the World Banks $14-billion crisisrelated lending for Asias third-largest economy over three years through 2012.
4.7.5 World Bank gives $320 million loan for better roads in Andhra
The World Bank has approved a $320 million loan to India, designed to improve quality,
capacity and safety of roads in the state of Andhra Pradesh. The loan from the International
Bank for Reconstruction and Development (IBRD) with a maturity of 30 years, including a
grace period of 5.5 years. It would help finance the Andhra Pradesh Road Sector Project
designed to upgrade about 429 km of priority state highways and finance long-term
maintenance of over 6,000 km of the states core road network.
Road transport is vital to Andhra Pradeshs economy, accounting for more than 80 percent
of freight and passenger traffic, the Bank said noting the State Government has invested
79

heavily to improve its transport infrastructure. The project will help strengthen the state
governments ability to leverage its own resources with private sector financing for road
infrastructure. This will help the state attract private sector participation in financing,
development, and management of selected high traffic density corridors. It will also
support measures to reduce road accidents, including demonstration projects on selected
corridors.

Newsletter: 1.World Bank approves $4.3-bn loan for India published on September 23rd, 2009
2. World Bank gives $320 million loan for better roads in Andhra published on October 16th, 2009

4.7.6 ADB to provide $700 mn loans for Indian infrastructure projects

The Asian Development Bank (ADB) will provide India up to 700 million U.S. dollars in
loans to accelerate its rollout of infrastructure projects through public-private partnership
(PPP) initiatives. ADB's Board of Directors approved the multi-tranche loan for the
Second India Infrastructure Project Financing Facility. The loan will be released over five
years to the state-owned India Infrastructure Finance Company Ltd. (IIFCL), and is
follow-on of the first-stage facility of 500 million U.S. dollars, approved in 2007.
After the first-stage facility has proven to be effective in facilitating PPP
infrastructure. ADB is committed to assist India in promoting PPP projects, especially in
the transport and power sectors, since infrastructure investments lead to higher farm and
non-farm productivity, increases employment opportunities and incomes, and reduces
poverty. India's economy has grown strongly in recent years. However, to expand, or
even maintain, infrastructure in the face of a rapidly growing population, fiscal constraints,
and the recent global financial crisis, is a major task requiring the support of the private
sector, ADB said in a news release.
Although the government has carried out broad financial sector reforms to create a
market environment for long-term and innovative financing required for infrastructure
projects, products and market, the appetite from private sector investors for long-term
finance for infrastructure is still limited. The new loan will help India meet its
infrastructure investment target of 514 billion U.S. dollars under its current 11th Five Year

80

Plan, and continue support for the government's effort to move forward the infrastructure
agenda.
4.7.7 US Ex-Im Bank loan for Indias infrastructure sector
The Export-Import Bank of the US has committed $2.45 billion under the India
Infrastructure Facility, which provides for medium- and long-term financing of guaranteed,
dollar loans to Indian borrowers, to fund infrastructure projects and capital goods
purchases. The facility is available for long- and medium-term transactions and projects
and provides for expedited processing and minimizes documentation. It has also approved
nine Indian financial institutions, these being India Infrastructure Finance Co, Indian
Renewable Energy Development Agency, IDBI Bank, IDFC Bank, Infrastructure Leasing
and Financial Services, Power Finance Corp, Punjab National Bank, State Bank of India
and ICICI Ltd.
The Ex-IM Bank has a current exposure to Indian borrowers of $7.2 billion in sectors such
as aviation, telecom, oil and gas, heavy equipment sales and leases, medical equipment,
services and energy, Ellis said at a meet organized by the Federation of Indian Chamber
of Commerce and Industry (Ficci).
Ex-Im Bank assists US exporters by guaranteeing term financing to creditworthy
international buyers, both private and public sector, for purchases of American goods and
services. With Ex-Im Banks loan guarantee, international buyers are able to obtain
competitive term financing from lenders when financing is otherwise not available or there
are no economically viable interest rates on terms over one-to-two years.

81

Newsletter: 1.ADB to provide $700 mn loans for Indian infrastructure project published on July 1st, 2009
2. US Ex-Im Bank loan for Indias infrastructure sector published on August 10th, 2009

CHAPTER 5
STRATEGIES ADOPTED AND OVERVIEW OF THE ECONOMY
5.1 STRATEGIES ADOPTED BY REAL ESTATE INDUSTRY
As has been the case with the rest of the economy in recent times, the real estate
industry has shown signs of stabilization following a period of consistent decline.
However, real estate is typically the first victim of an economic downturn & the last
beneficiary of an upswing. Therefore while the other asset classes are experiencing
improved fortunes, it will be a while before Indias real estate industry witness similar
buoyancy. Indias real estate market has begun showing signs of stabilizing, & the flexible
approaches & coping strategies adopted by all players have significantly restricted the
scale of damage suffered by them. While cost cutting has been the mantra across the board,
concerned efforts have been made by all parties to ensure that stagnation does not set in.
The result

has been a series of short term adaptive measures, & certain strategies that

might represent a long term paradigm shift in Indias real estate market.
1. One of the root causes of the real estate sector slump has been a lack of
financing for the supply side that adversely impacted existing & planned

82

developments. To skirt this issue, a few major developers have taken to asset
sales as a means of countering immediate funding shortfalls.
2. During the height of the slump, the renegotiation of lease agreements &
relocation to cheaper locations was a key priority of tenants of commercial
space.
3. The need for affordable housing, which prior to the slump was grossly
neglected, has now come to the force. The demand for such housing has been
supplemented by the fact that developers, forced by market conditions, have
converted premium projects to affordable housing projects in a bid to boost
sales. Recently, two housing projects in the NCR were fully booked within days
of being launched. 3300 flats in Aman, the new Jaypee Greens project on the
Noida-Greater Noida expressway, were booked on the day of launch. These
flats were priced at Rs. 2,100 per sq.ft.
Article: Economy and Real Estate at a Glance Research knight Frank Q1 2009 published in National Realty Vol.1 Issue-1, June 2009

Last year Jaypee Greens had launched flats along the same expressway in the
range of Rs. 4,500-6000 per sr.ft.In Mumbai, especially in the citys western
suburbs, some developers are converting premium projects into affordable ones
for the lower income group.
4. Qualified Institutional Placements (QIP) Funds are raised through the sale of
shares to qualified institutional buyers (QIBs). Companies are utilizing the
funds raised from QIP partly to reduce the debt burden & partly to launch new
projects.
5. Better debt management - focus on reducing their interest burden through
rescheduling its debt & de-leveraging whenever possible.
6. More focus on maximization of construction volumes than on maximization of
project realization. This it intends to do through
a. reduction in costs,
b. decrease in unit sizes &
c. reduction in margins
7. Putting projects on temporary hold or postponing the plan many companies
postponed their new projects execution & stalled their next phases of the
project. Some companies exited the new deals & projects.

5.2 STRATEGIES ADOPTED IN INFRASTRUCTURE SECTOR

83

The impact of recession on infrastructure sector is less as compares with the real estate &
other sectors. Though there are problems in fund raising, many infrastructure organizations
are maintaining their profit & order booking. As there are huge opportunities in this sector
& government is helping to maintain the growth of infrastructure by implying various
policies, the effect of recession is less severe. This can be seen from the annual reports of
the various infrastructure firms.
The highlights of annual report 2008-09 of Hindustan Construction Company (HCC) are
as,

Order Book increases by 61.5% to Rs 16,400 crore.

Operating Margin improves to 13.0 % from 11.9 %.
Turnover & PAT grow by 13.3 % & 15.3 % respectively.

In the report it is highlighted that in the total order, Power Sector Projects constitutes 51%
of the order backlog. This shows the scope & opportunities in power sector. Various steps
have been taken to help infrastructure sector by Government & Private Parties through
fund raising policies & other policies as there are huge scope in this sector.

5.2.1 PRIVATE EQUITY:

Sensing huge opportunities, a clutch of private equity (PE) players are rushing in
to raise funds for the infrastructure sector. The fund is aiming to raise $ 1 billion (around
Rs 4,800 crore) from overseas investors, mainly endowments & pensions, to invest in
early-stage green-field infrastructure projects.
The funds in the process of raising funds for the sectors are

India Infrastructure Advantage Fund

Q India PE Fund
Eredene Capital India Infrastructure Fund
Alcazar Capital India Fund

There are other emerging markets & Asia focused infrastructure funds for which India is
an important investment destination. Such funds include,

84

JP Morgan Asian Infrastructure Fund

Babcock & Brown Asia Infrastructure Fund
Challenger Mitsui Emerging Markets Infrastructure Fund

According to a Goldman Sachs report, India will need $1.7 trillion over the next decade for
infrastructure & the major area where this spending will happen are roads, power, railways
& irrigation. The large supply-demand mismatch in infrastructure implies that there is a
significant scope to increase capital. Indias over all ROE (return on equity) has been
higher than the region, suggesting higher returns on capital, said the report.
Some recent deals in infrastructure were QIP (Qualified institutional placements) by
listed infrastructure players in which a number of PE funds participated. These includes
issues by

Hindustan Construction Company

GVK Power
GVK Infrastructure
PTC India

Infrastructure deals still form small part of the total PE deal flow. According to Grant
Thorntons half yearly deal tracker, only 11 out of a total of 93 deals related to the
infrastructure sector. The combined value of such deals was $420.3 million (around Rs
2,000 crore), which is 14.5 per cent of the total deal flow of $2.89 billion.
Some Prominent financial institutions that have invested in infrastructure funds are

Orix Capital Corporation

Indian Overseas Bank
Punjab National Bank
Asian Development Bank
General Insurance Corporation
Union Bank of India
The CDC Group &
Various Pension Funds

85

PEs smell gains in core sector by Vandana, Business-standard, 29 September 2009

5.3 CASES FROM THE INDUSTRY

The current market slowdown has taken its toll on most sectors, with real estate being
among the most severely affected. Developers are struggling to raise funds & trying hard
to improve their liquidity position. While some developers have been offering heavy
discounts on their existing projects to spur buyers interest, others are scouting for
opportunities to monetize assets.
UNITECH Ltd.

Totalincome
Sales
Incomefromfinancialservices
Rawmaterialexpenses
Compensationtoemployees
Indirecttaxes
Selling&distributionexpenses
Otheroperationalexp.ofindl.enterprises
PBDTA
PBT
PAT
Networth
Paidupequitycapital(netofforfeitedcapital)
Reserves&surplus
Totalborrowings
Currentliabilities&provisions
Totalassets
Grossfixedassets
Netfixedassets
Investments
Currentassets
Loans&advances
Totalincome
Totalexpenses
PBDITA

Mar2004 Mar2005 Mar2006 Mar2007 Mar2008 Mar2009

12mths
12mths
12mths
12mths
12mths
12mths
2969.73
2454.92
382.11
527.19
674.75
2600.08
374
494.83
655.1
2446.71
2810.51
1845.08
4.15
26.92
13.71
83.07
144.83
572.12
0
57.24
66.16
85.84
45.51
23.83
10.38
17.03
31.11
65.61
98.43
106.38
0.27
0.36
0.21
0.51
0.22
0.2
0.34
3.52
3.8
5.89
11.05
9.69
329.52
298.12
311.45
739.15
853.98
533.66
22.26
44.47
110.71
1349.81
1373.71
966.68
20.57
42.33
107.61
1345.27
1365.13
956.64
14.07
28.87
69.13
984
1030.3
739.66
150.69
173.91
224.54
1161
2143.82
2859.56
12.49
12.49
12.49
162.34
324.68
324.68
138.2
161.42
212.05
998.66
1819.14
2534.88
132.69
295.24
649.85
3575.21
8111.27
7076.37
778.24
1418.7
2420.56
4273.99
6371.26
7207.36
1064.28
1890.16
3298.18
9014.17
16630.15
17147.58
97.21
159.05
83.18
102.76
136.7
193.99
73.65
133.53
54.74
72.52
100.74
153.19
84.77
166.56
282.38
518.92
1397.98
1954.93
839.56
1437.13
2292.01
6516.39
12039.34
13100.35
54.29
128.52
644.24
1884.65
3070.85
1915.34
54.34
37.97
27.99
285.34
14.22
17.34
57.54
31.79
21.8
168
20.11
11.56
8.89
98.47
130.2
953.24
14.82
4.63

86

PAT
Networth
Totalassets
Profitabilityratios(%)
PBDITANetofP&E/TotalincomenetofP&E
PATNetofP&E/TotalincomenetofP&E
PATNetofP&E/Avg.networth
PAT/Avg.networth
PATNetofP&E/Avg.totalassets
PAT/Avg.totalassets
Liquidityratios(times)
Currentratio
Debttoequityratio
Interestcover
Debtors(days)
Creditors(days)
Efficiencyratios(times)
Totalincome/Avg.totalassets
Totalincome/Compensationtoemployees

32.24
8.92
24.93

105.19
15.41
77.6

139.45
29.11
74.49

1323.41
417.06
173.31

4.71
84.65
84.49

28.21
33.39
3.11

8.28
3.76
9.93
9.74
1.5
1.47

12
5.67
18.43
17.79
2.02
1.95

21.32
10.34
35.01
34.7
2.69
2.66

57.05
36.39
133.41
142.04
15.01
15.98

58.35
34.71
62.38
62.35
8.04
8.04

66.89
29.28
28.38
29.57
4.2
4.38

1.08
0.88
3.29
55.74
783.9

1.01
1.7
3.44
43.91
1113.55

0.95
2.89
4.33
37.28
1638.89

1.52
3.08
9.1
13.02
1321.55

1.05
3.78
4.81
54.4
1913.17

1.34
2.47
2.35
151.66
3395.37

0.4
36.81

0.36
30.96

0.26
21.69

0.42
39.63

0.23
30.17

0.15
23.08

SOURCE: CMIE
From the past financial data which is presented above we can observe that under the
influence of real estate market crash the income of Unitech Ltd. dropped from Rs. 2969
million I March 2008 to Rs. 2454 million in March 2009. Also the profit of the company
dropped from Rs. 4.71 million in March 2008 to Rs. -28 million in March 2009. Here we
are studying the measures adopted by Unitech Ltd. in the crisis period.
5.3.1 UNITECH TO FOCUS ON AFFORDABLE HOUSING:
Considering the liquidity crunch in real estate, it is important that Unitech uses its funds in
a judicious manner.
It plans to launch new projects in affordable housing to ensure future cash flows
& payments of debt. It plans to launch 40 projects under this segment over the
next 12 months with a built up area of 30 million square feet.
Thus the company is now reviewing its strategy. It plans to focus more on
maximization of construction volumes than on maximization of project realization.
This it intends to do through reduction in costs, decrease in unit sizes & reduction
in margins.
Finally, Unitech plans to continue its focus on reducing its interest burden through
rescheduling its debt & de-leveraging whenever possible.
Unitech Limited has chosen to experiment with the nearly forgotten route of private
placement.

87

 The company recently completed a successful qualified institutional placement

(QIP) issue, raising Rs. 16.25 billion ($ 325 million) through the sale of shares to
qualified institutional buyers (QIBs). The final issue price was Rs. 38.5 per share,
which was an 11% discount over the closing price on April 17, 2009 on the
Bombay Stock Exchange.
About 90% of the issue was subscribed by overseas investors & financial institutions &
remaining by domestic institutions.

Article: Grappling with the Slowdown by Manmeet Singh Loomba published in Indian Infrastructure, June 2009.
Article: Real Estate, Successful QIP Issue published in Indian Infrastructure, May 2009

Table 5.1: Qualified Institutional Placement by Unitech Ltd.

QIP by

Qualified Institutional Buyers (QIB)

Final issue Price

Three largest foreign investors

Unitech

1. Govt. of Singapore
2. Prudential Financial Incorporation
3. Global Asset Management arm of
HSBC Group, Halbis

Fund Raised
Rs. 16.25

Rs. 38.5

billion ($325
million)

The funds raised from the issue will be utilized partly to reduce the debt burden & partly to
launch new projects.
To repay its debt, the company adopted various strategies. For instance, it offered
some of its hotel projects & its office complex in Saket, New Delhi, for sale. It had
also planned to raise Rs. 15 billion from sale of hotel, commercial space &
undeveloped plots reserved for schools & hospitals.
In November 2008, the company sold 60% of stake in its telecom arm, Unitech
Wireless, to Norway based Telenor Group for Rs. 61.2 billion.

88

DLF Ltd.
From the past financial data which is presented below we can observe that under the
influence of real estate market crash the income of DLF Ltd. dropped from Rs. 6062
million in March 2008 to Rs. 3880 million in March 2009. Also the profit of the company
dropped from Rs. 532.72 million in March 2008 to Rs. -38 million in March 2009. Here
we are studying the measures adopted by DLF Ltd. in the crisis period.

Totalincome
Sales
Incomefromfinancialservices
Totalexpenses
Power,fuel&watercharges
Compensationtoemployees
Indirecttaxes
Selling&distributionexpenses
Otheroperationalexp.ofindl.enterprises
PBDITA
PBDTA
PBT
PAT
Networth
Paidupequitycapital(netofforfeitedcapital)
Reserves&surplus
Totalborrowings
Currentliabilities&provisions
Totalassets
Grossfixedassets
Netfixedassets
Investments
Currentassets
Loans&advances
Growth(%)
Totalincome
Totalexpenses
PBDITA
PAT
Networth
Totalassets
Profitabilityratios(%)
PBDITANetofP&E/TotalincomenetofP&E
PATNetofP&E/TotalincomenetofP&E
PATNetofP&E/Avg.networth

Mar2004 Mar2005 Mar2006 Mar2007 Mar2008 Mar2009

12mths
12mths
12mths
12mths
12mths
12mths
6062.06
3880.36
495.83
479.78
1146.14
1430.72
472.92
442.04
983.94
1130.62
5530
2826.61
19.81
33.76
159.43
294.74
517.86
999.55
453.42
412.09
915.04
1015.09
3481.41
2300
0.89
1.03
0.23
0.69
1.35
0.98
21.41
33.34
16.76
44.83
144.47
107.58
5.13
4.75
1.39
4.57
5.03
5.66
20.5
24.95
28.04
64.87
47.43
68.28
365.12
259.29
577.63
85.13
1830.46
374.75
59.74
129.34
488
1129.04
3923.53
3200.69
50.83
99.39
352.01
630.03
3143.03
1949.98
48.07
96.87
348.99
621.47
3118.11
1838.59
35.48
67.69
228.52
406.91
2574.59
1577.58
317.82
383.93
644.93
652.8
11269.16
12374.83
3.51
3.51
37.77
305.88
340.97
339.44
314.31
380.42
607.16
346.92
10928.19
12035.39
561.06
633.08
3013.89
6769.15
8386.28
9614.97
1155.38
1337.54
1358.49
3759.04
3753.2
3093.22
2041.97
2362.85
5026.7
11205.04
23441.95
25148.19
86.04
505.43
565.64
1030.62
3315.53
3626.13
59.34
478.64
536.4
993.61
3256.19
3473.25
177.27
173.82
1397.28
769.18
1839.82
2956.31
1402.31
997.12
1285.96
6069.75
11287.1
10733.41
400.93
693.76
1722.42
3213.51
7042.69
7977.65
71.53
63.03
27.9
31.65
11.94
46.78

3.24
9.12
116.5
90.78
20.8
15.71

138.89
122.05
277.3
237.6
67.98
112.74

24.83
10.93
131.36
78.06
1.22
122.91

323.71
242.97
247.51
532.72
1626.28
109.21

35.99
33.93
18.42
38.73
9.81
7.28

11.98
7.08
11.66

26.95
14.08
19.23

42.52
19.86
44.18

78.91
28.4
62.56

64.73
42.47
43.19

82.4
40.19
13.07

89

PAT/Avg.networth
PATNetofP&E/Avg.totalassets
PAT/Avg.totalassets
Liquidityratios(times)
Currentratio
Debttoequityratio
Interestcover
Debtors(days)
Creditors(days)
Efficiencyratios(times)
Totalincome/Avg.totalassets
Totalincome/Compensationtoemployees

11.79
2.04
2.07

19.29
3.06
3.07

44.42
6.15
6.18

62.71
5
5.01

43.19
14.86
14.86

13.34
6.36
6.49

1.17
1.77
6.35
48.26
959.57

0.73
1.65
4.23
45.22
1352.44

0.76
4.67
3.56
5.66
672.25

1.42
10.37
2.24
32.34
3886.91

1.51
0.74
4.99
36.44
427.15

2.07
0.78
2.44
73.85
796.97

0.29
23.16

0.22
14.39

0.31
68.39

0.18
31.91

0.35
41.96

0.16
36.07

Source: CMIE.
5.3.2 DLF RESTRUCTURES:
Most major real estate companies are restructuring to reduce gearing, through a
combination of measures like asset sales at reduced prices & also private placements.
DLF Limited, the largest Indian real estate player in terms of sales, is also putting a
proactive debt management strategy in place. In last financial year (FY 2008-09) has seen
it struggling to cope with a drop in sales & an increase in debt.
By March 31, 2009, DLFs gross debt of Rs. 163.58 billion had increased 33 per
cent over that at the end of the previous fiscal year.
On a consolidated basis, DLF reported a net profit of Rs 1.59 billion for the quarter
ended March 31, 2009 (Q4, 2008-09), a decrease of 92.7 % compared to a net of
Rs 21.77 billion in corresponding quarter of 2007-08. Total revenues decreased 69
% to Rs 13.51 billion from 43.72 billion in Q4, 2007-08.
Table 5.2: Quarterly Financial Results Comparison of DLF
Year

Q4, 2007-08

Q4, 2008-09

DLF

%Change
(Decrease)

Total Revenue

43.72 billion

13.51 billion

69

Profit

21.77 billion

1.59 billion

92.7

DLF has been forced to cut prices in many of its residential projects. It has also
stalled or exited projects which are not expected to yield revenue in the short to
medium term. In February 2009, DLF froze two of its biggest residential projects
New Town Heights in Gurgaon & Express Greens in Manesar. It also slashed prices
90

at its affordable housing projects in Chennai up to 19 % to counter a demand

slump.
What is more, it withdrew from the Rs 50 billion Dankuni township project, near
Kolkata, citing the global economic slowdown. It also requested the state
government to refund its Rs 2.7 billion equity participation.
The promoter-owned associate company, DLF Assets Limited (DAL), is a major
concern. There has been a drastic reduction in DALs contribution to revenues.
Plans to list DAL on the Singapore Stock Exchange as a real estate investment trust
in 2008 were also withdrawn.
Better Debt Management
Despite the slowdown, DLF has met most of its debt obligation. It has taken
recourse to raising long-term debt to enable it to meet short-term debt obligations.
In April 2009, DLF & DAL together raised Rs 11 billion from HDFC Bank through
the lease rental discounting (LRD) of commercial properties. Under the LRD
mechanism, funds are raised against expected future rentals.
In another significant move, DLFs promoters sold 9.9% stake to raise Rs 38.6
billion. The promoters sold 168 million shares at a price of Rs 230 per share.
DLF has aggressive restructuring plans in place for the current fiscal year.
DLF is planning to divest non-strategic projects & assets & thereby raise Rs 55

billion to further reduce debt.

This includes the sale of its wind power business for Rs 9 billion,
An exit from Delhi Convention Centre Project &
The sale of some hotel properties.
It also plans to focus on affordable housing projects &
Sale of its commercial complexes.

91

Article: Real Estate, DLF Restructures by Manmeet Singh Loomba ,published in June 2009 Indian Infrastructure.

5.4 OVERVIEW AFTER RECESSION

The Indian economy had moved to a high growth phase during 2003 to 2008, but suffered
a major decline in 2008-09 on account of the global financial crisis. The factors
responsible for rapid expansion of the economy from 2003-2008: robust investment
growth, high rate of domestic savings, strong corporate performance and good tax
buoyancy were largely undone by the global financial and economic crisis in the second
half of 2008-09. The impact of the slowdown has been broad-based in nature. Growth in
Industrial and Agricultural sectors moderated significantly during the year. The services
sector managed to minimize the effects of the slowdown with a 9.5% growth (compared to
10.9% last year). Merchandise exports grew by a mere 5.7% during 2008-09 as compared
to a 26% growth during last year.
The outlook for the Indian economy continues to be subdued with recovery expected only
in the second half of 2009-10.
Gross Domestic Product (GDP)
Gross Domestic Product (GDP) at current market prices is estimated at USD1 1.18 trillion
in 2008-09 by the Central Statistical Organisation (CSO) in its advance estimates (AE) of
Gross Domestic Product.GDP at factor cost at constant 1999-2000 prices is estimated by
the CSO to grow at 7.1% in 2008-09. This represents a deceleration from the high growth
rates of 9.7% and 9.0%, respectively, in the previous two years.
Table 5.3: Rate of Growth of GDP at factor cost

92

1
2

Taking average USD-INR exchange rate for April 2008-March 2009 (INR45.95 / USD)
Includes Forestry, Logging and Fishing

Agricultural growth decelerated to 2.6% in 2008-09.

Manufacturing which grew at 8.2% in 2007-08, decelerated by about 4.1
percentage points in 2008-09. The Construction sector also slipped by about 3.6
percentage points to a 6.5% growth rate in 2008-09.

The Index of Industrial Production3 suffered its worst year in 2008-09. After
having grown between 8-11% in the preceding 4 years, it witnessed a growth of
only 3.4% in 2008-09.

Inflation
The Wholesale Price Index (WPI) touched double digit growth rate in the month of June
2008 and peaked to 12.8% during August 2008. This prompted the Government to take
action on the monetary policy to curb rising prices.
Table 5.4: Yearly WPI

93

Within a span of seven months, the WPI came down from the high of August 2008
(12.8%) to 0.27% during the week ending March 14, 2009. The crash in commodity prices
(especially crude oil, metals and agricultural commodities) in the international markets has
been largely responsible for such a steep fall in inflation in the domestic economy. The
Consumer Price Index (CPI-IW) has been relatively rigid as compared to the WPI. After a
slight moderation in December 2008, it went back to its previous level (10.4 % in October
November 2008) in January 2009. The relative rigidity is on account of the higher
weight of food items (46%) in the index whose prices have remained relatively high.

Index of Industrial Production (IIP) represents the status of production in the industrial sector for
a given period of time as compared to a reference period of time. The general index of industrial
production compiled in India currently includes mining, manufacturing, and electricity sectors only
4 Primary articles include Food grains, Minerals and non food articles
5 Manufactured products include Textiles, Machinery and machine tools, Chemicals and food
Products
6 Measured as % growth of overall price index over previous year
3

5.4.1 FOREIGN INVESTMENT INFLOWS

During the year 2008 - 2009 (April 2008 January 2009), inflows under Foreign
Investment were USD 15.55 billion as compared to USD 63.76 billion in the previous
financial year (April 2007 March 2008).
Table 5.5 FDI in INDIA

The sharp fall has been on account of withdrawal of more than USD 13 billion from the
Indian markets by the Foreign Institutional Investors (FII) during the period April 2008
January 2009. It needs to be highlighted that most of the FDI is routed through Mauritius

94

on account of tax exemptions. Singapore, USA, UK, Netherlands and Japan are the other
key contributors of FDI inflows in India.
Table 5.6: Country wise breakup of FDI

* April to March, ** April to December.

7 Includes

FIPB (foreign investment promotion board), Automatic and Acquisition routes, and
Equity capital of unincorporated bodies
8 April 2000 to December 2008
9 does not include Equity Capital of unincorporated bodies

Services sector, Computer software & hardware and Telecommunications were major
sectors for FDI inflows during 2008-09 followed by Housing & Real Estate and
Construction.
Table 5.7: Sector wise breakup of FDI

95

5.4.2 DOMESTIC FINANCIAL MARKETS

5.4.2.1 Trends in the Primary markets
The primary market witnessed a decline during the period April 2008- February 2009. The
total amount of funds mobilised by the corporate sector were merely 13% of the amount
mobilised last year for the same period. The number of issues also declined from 152 in
2008-09 to only 44 during 2008-09.

Does not include Equity Capital of unincorporated bodies

2000 to January 2009
12 Financial and non financial services
13 radio paging, cellular mobile, basic telephone services
14 Includes roads and highways
15 Indicative list of other sectors are drugs & pharmaceuticals, power, petroleum, mining,
chemicals, housing and real estate. Total number of sectors covered in others
10

11 April

Table 5.8: Primary Market instruments

96

5.4.2.2 Private Placement of corporate debt

In contrast, funds raised by the corporate sector through debt issues witnessed a growth of
60% over the amount raised last year during the same period (April - February). The
number of issues also increased from 872 to 1011 during 2008-09.
Table 5.9: Private Placement of corporate debt

5.4.3 Trends in the Secondary markets

The Bombay Stock exchange (BSE) Sensex which touched the 21,000 mark in January
2008, witnessed progressively sharp decline during the year and reached 8160 in the
second week of March 2009. Similarly, the National Stock exchange (NSE) Index NIFTY
after having touched 6100 levels in 2007, closed at 2764 in February 2009. The equity
market movements largely followed the global cues against the backdrop of weak
domestic indicators from the economy. This fall in market indices was not only due to the
global economic recession but also on account of slowdown in the Indian industry and
eroding corporate profitability during the year.
16 IPO:

Initial Public Offering

FPO: Follow on Public Offering
18 QIP: Qualified Institutional Placement
17

97

Table 5.10: Market Trends

The stock markets reflected the state of the Indian economy and registered negative return
to the tune of 38% during the year 2008-09.
On the positive side, the valuation of Indian stocks as reflected in P/E multiples was
around 12.5 times at end of February 2009, which was the highest amongst the select
emerging market economies such as South Korea, Thailand and Taiwan Both the BSE
Sensex and the NSE 50 Index have shown marginal recovery in the month of March 2009.
However, the market observers are sceptical about the sustainability of the capital markets
given the further slowdown expected in the economy.
5.4.4 FOREIGN TRADE
Merchandise exports were significantly impacted by the global economic slowdown. The
value of exports was USD 168 billion during 2008-2009 registering a meagre 6% growth
as against 26% last year. Merchandise imports also reflected the economic slowdown in
the country with only 21% growth as compared to 29% in the previous year.
Table 5.11: Import Export Comparison

98

19 Includes

quick estimates for March 2009 by the Ministry of Commerce

Trade deficit increased by about 50% during 2008-09 to touch USD 119 Billion. The trade
deficit is expected to narrow during the next year on account of falling cost of crude oil
and other commodity prices.
5.4.4.1 Commodity Exports
During the period April - October 2008, manufactured goods were the most important
commodity in Indias export basket contributing 64% share. However, it exhibited the
slowest growth among the categories. This was because the exports of labour-intensive
sectors such as textiles, gems and jewellery and leather had been adversely affected under
the impact of demand recession, mainly in the developed regions viz., the European Union
and the United States.
Table 5.12: Commodity Exports Growth %

5.4.4.2 Commodity Imports

During the period April - October 2008, Petroleum, Petroleum products and related
materials were the most important commodity (in terms of value as well as growth) in
Indias import basket contributing more than 50% share.
Table 5.13: Commodity Imports Growth %

99

20

Includes Machinery electrical and non electrical, Machine tools and transport equipment
in total imports due to difference in months for which data is reported

21 Difference

The high growth in Petroleum imports during the above period was largely due to higher
international crude oil prices that prevailed during May-August 2008.
5.4.4.3 Exchange Rate
The exchange rate of the Indian Rupee was Rs. 50.95 per USD on March 31st 2009. The
rupee weakened vis--vis the US Dollar, Euro and the Japanese Yen but gained vis--vis
the British Pound.
Table 5.14: Change in Exchange Rate

The Rupee weakened against the UD Dollar on account of net FII outflows to the tune of
nearly USD 0.6 Billion in the last week of February. The general strengthening of the
dollar against emerging market currencies also contributed to the depreciation.
5.4.5 Government Policy
5.4.5.1 Fiscal Policy Changes
With the objective of stimulating the economic growth, the government declared three
fiscal stimulus packages during the period December 2008 to February 2009. Key
measures taken are outlined below.
5.4.5.2 Duty reductions:
Central value-added tax (CENVAT)23 reduced by 4% from 14% to 10%
Service tax reduced by 2% from 12% to 10%

100

Exchange rates at the end of the year.

In India, an excise tax is levied on the manufacturer of goods when those goods leave the
place of manufacture. Formerly called the Central Excise Duty, this tax is now known as the
Central Value Added Tax (CENVAT). Manufacturers may offset duty paid on materials used in
the manufacturing process by using that duty as a credit against excise tax through a process
known as Central Value Added Tax Credit (CENVAT Credit). The offsetting process was formerly
known as Modified Value Added Tax (MODVAT).
22
23

Excise duty24 reduced by 4% for cement, household appliances, textiles, steel and
by 2%on items that currently attract the 10% rate
Export duty on iron ore fines withdrawn and on ion ore lumps and pallets reduced
to 5%
Import duty on naphtha for use by the power sector reduced to zero
Exemptions from counter-vailing duties (CVD) on TMT bars and structurals, and
CVD and Special CVD on cement
5.4.5.3 Incentives for the automobile sector:
Accelerated depreciation of 50% will be provided on commercial vehicles bought
on or after January 1, 2009 upto March 31, 2009
SPV created to provide liquidity support to NBFCs for financing Commercial
Vehicles
5.4.5.4 Incentives for housing and infrastructure sector:
Loans less than USD 0.04 million granted by banks to be classified under priority
sector
USD 0.8 billion re-finance facility for National Housing Bank (NHB)
5.4.5.5 Incentives for infrastructure sector:
India Infrastructure Finance Company Ltd (IIFCL) 25 authorized to raise USD 2
billion via tax-free bonds by March 2009, with approval to raise an additional USD
6 billion

101

 IIFCL to refinance 60% of commercial bank loans for PPP projects involving an
investment of USD 20 billion over the next 18 months

24 Central

Excise duty is an indirect tax which is levied and collected on the goods/commodities
manufactured in India
25 IIFCL is a dedicated institution purported to assume an apex role for financing and
development of infrastructure projects in the country

5.4.5.6 Incentives for exports:

Interest subsidy of 2% for pre and post-shipment export credit till March 31, 2009
for labour-intensive exports like textiles, leather, marine products and SME sector.
Interest rate ceiling on external commercial borrowings (ECBs) scrapped under
RBI approval route.
5.4.5.7 Monetary Policy changes
The RBI has been easing its monetary policy stance over the last two quarters. It has made
the following changes:
Reduced the Cash Reserve Ratio (CRR)26 by 4% (from 9% to 5%) this has
facilitated a release of huge liquidity through the banking system
Reduced the Repo rate27 by 4% (from 9% to 5%)
Reduced the Reverse repo rate by 2.5% (from 6% to 3.5%)
The above measures have resulted in not only in release of liquidity to over USD 76
billion, but also softening of lending rates of the banks by about 250 to 350 basis points for
many class of borrowers.

102

26 CRR

: The portion (expressed as a percent) of depositors balances banks must have on hand
as cash or with the Reserve Bank of India
27 Repo-rate: Discount rate at which a central bank repurchases government securities from the
commercial banks, depending on the level of money supply it decides to maintain in the countrys
monetary system

Table 5.15 Impact of fiscal and monetary changes on select sectors

103

104

5.5 OTHER POLICY DEVELOPMENTS

5.5.1 Daily foreign newspapers allowed 100% FDI
Owners of the daily foreign newspapers would be allowed to make up to 100% FDI in
their facsimile editions published in India. However, Government's prior approval for
publication of facsimile edition will be required. Earlier, the facsimile editions of foreign
newspapers were allowed FDI up to 26%. For the publication of Indian editions of foreign
magazines dealing with news and current affairs, up to 26% of FDI would be permitted.
5.5.2 Guidelines for transfer of ownership and control of Indian companies in sectors
with caps
The Department of Industrial Policy and Promotion (DIPP)28 has made it mandatory for
Indian companies to seek Foreign Investment Promotion Boards (FIPB)

29

approval, if it

intends to transfer ownership or control to a foreign company in restricted sectors such as

telecom, defence production, air transport services and broadcasting.
5.5.3 Implementation of Mobile Number Portability (MNP) likely in 2009
The Department of Telecommunications (DoT) has selected two companies (Syniverse and
Telecordia) to implement MNP services in the country in 2009. These companies will
provide Indian operators with number portability clearing house and centralized database
solutions. The MNP implementation will first focus on the larger metropolitan service
areas before moving into rural locations.
5.5.4 3G auctions postponed indefinitely
3G auctions, which were scheduled to be held during the last quarter of 2008-09, have
been postponed indefinitely on continued uncertainty on base price for the auction. The
auctions are now likely to take place only post the central elections scheduled during
April-May 2009.

28

The DIPP is the body responsible for facilitating investment and technology flows and

105

monitoring industrial development in the liberalized environment

29 FIBP is the body to consider and recommend foreign direct investment (FDI), which do not
come under the automatic rout

5.6 Sector overview

5.6.1 Automobile Sector
The automobile sector in India, after a very healthy performance of the previous four years
(2004 to 2008), grew by only 3% (in volume terms) during 2008-09. Indeed, the domestic
sales received a setback with a mere 0.7% growth. Stringent credit disbursement norms,
longer processing periods and adverse financing conditions, coupled with weak consumer
sentiment due to uncertainty over income growth were responsible for the slow growth
during the large part of this period. However, the sector exhibited initial signs of recovery
in the last quarter of 2008-09 (14% QoQ volume growth) after a dismal performance in the
third quarter (-20% QoQ volume growth).
The sales volumes witnessed a revival on account of governments stimulus package,
robust farm income and new product launches by the manufacturers. Easing monetary
policy and excise rate cuts are expected to drive the demand improvement in 2009-10.
Renewed focus of Public sector banks and manufacturer tie-ups with vehicle financiers are
expected to improve the availability of vehicle finance. In addition, reduction in prices of
key raw materials like steel, aluminium and rubber would help the manufacturers improve
their margins.
5.6.2 Real Estate Sector
The real estate sector experienced a substantial slowdown in 2008-09 after registering
buoyant growth in the previous 3 years. Overall weak sentiment, low affordability,
substantial increase in\ interest rates (during September to December 2008) and risk
aversion by banks on the exposure towards the real estate sector negatively affected the
developers. Net sales declined sharply (by 17%), with reduction in the number of
transactions as well as sale prices. Since February 2009, the sector has witnessed a gradual
pick-up in demand for the affordable housing segment in certain regions.
Mortgage rate cuts by lending majors and the debt rescheduling / restructuring window
presented by RBI have prompted renewal of construction activities by the developers

106

during the last quarter. However, the commercial, retail and premium housing continue to
remain under pressure with no signs of demand pick-up in the near term.

5.6.3 Telecom Sector

The telecom sector in India managed to keep itself insulated from the economic slowdown
and exhibited robust growth. It grew by about 50% with more than 120 million mobile
subscribers being added in 2008-2009 to the subscriber base of 261 million at the end of
March 2008. Subscriber net addition momentum accelerated during the last quarter of
2008-09. Monthly additions averaged 14.5 million during January-March 2009 v/s an
average of about 10 million during second half of 2008. The increase in net additions was
well distributed across regions. On the regulatory front, 3G auctions (originally scheduled
for the fourth quarter of 2008-09) have been postponed, termination charges have been cut
by 33% effective April 1 2009, and selection process for third-party Mobile Number
Portability (MNP) operator has been concluded, paving way for likely implementation by
end of 2009. The cut in service tax from 12% to 10% is expected to impact the sector
positively.
5.6.4 IT Services sector
The IT services sector, after a remarkable buoyancy of the previous nearly two decades,
grew by at a moderate pace of 9.7% (in dollar terms) during the period April 2008December 2008. The global economic slowdown prompted the IT consumers across
various sectors (especially BFSI30) to cut IT budgets and freeze non-discretionary spending
during 2008-09. The appreciation of the rupee in the early part of the year led to lower
realizations for the IT companies in India. Furthermore, there had been price cuts across
the board. The top five IT companies in India renegotiated almost $1.5 billion worth of
outsourcing contracts since September 2008 at around 15% lower rates. The prospects of
the IT sector is dependent on clients lifting their freeze on IT spends and adopting offshoring to cut costs. The large IT players would need to spend more on their selling and
marketing efforts in order to garner business, thereby increasing their costs. Infosys, the
second largest IT player in India, underlined the domestic IT industrys vulnerability on the

107

global developments with a forecast of a fall in revenue and earnings (in dollar terms) for
2009-10.

30

Banking, Financial Services and Insurance

5.6.5 Outlook for 2009 2010

The factors that were responsible for rapid expansion of the economy in the last five years:
high private consumption expenditure, robust investment growth supported mostly by high
rate of domestic savings, strong corporate performance, acceleration of exports and good
tax buoyancy have been affected adversely by the global financial and economic crisis in
the second half of 2008-09. The crisis, which started with high default rates in sub-prime
mortgages in the US, spread to financial markets around the world and led to a global
economic recession in 2008-09.
The continued fallout from the global economic slowdown is also expected to pull down
the growth further in 2009-10. Industrial growth is expected to remain weak due to
slowdown in demand both in exports and domestic markets. The main driver, the
services sector is also expected to witness sharp moderation in growth rates. Even so, we
expect Indias overall real GDP growth to remain fairly high in 2009-10, and it would
continue to be the second fastest major growth economy in the world after China.
The inflation rate (WPI) is already close to 0% and is expected to enter negative territory
during the first half of 2009-10 since international crude oil prices are expected to remain
at a relatively low level due to global economic slowdown. The inflation rate would start
picking up during the latter half of the year as demand recovers.
The business and industry are expecting further softening of interest rates, given the
current scenario of zero inflation. The rupee is expected to depreciate further by 4-5%
during the first half of 2009-10. This is on account of the expanding trade deficit, expected
recovery in crude oil prices and expectations of low foreign capital inflows into the
country.

108

Taking account of global developments and the Indian factors, we expect Indias overall
real GDP growth rate to decelerate to 5.5% - 6% in 2009 -10, as compared to likely revised
estimate of growth rate around 6.5% for the previous year.

Asia Business Generator Project Indian Economy Annual Report (2008 2009)

CHAPTER 6
CONCLUSION OF THE STUDY
6.1 INTRODUCTION
The Indian Industry like its counterparts in other countries, suffered from global
meltdown. The main focus of the study was on construction industry, especially real estate
sector. The study analyzed the two largest companies in the real estate sector i.e. DLF &
Unitech along with the whole construction industry. The results of the study are presented
in this chapter.
6.2 LESSONS FROM RECESSION A MACRO VIEW
Mistakes Realties Company committed during boom

Amassed large land banks at outrageous prices

Raised funds and took short-term debts at high rates to buy more land
Ignored real, middle-class homebuyers and focused on luxury housing, hotels and

retail. Home prices got unrealistic

Took customer advances, raised to buy more land without beginning construction

of projects
Diversified into non-core segments such as power, telecom, warehousing

Corrective measures they took during the slump

Started giving huge discounts to buyer , changed project formats

Sold non core asset such as land, properties
Launched affordable housing, stalled luxury projects
109

Raised money through qualified Institutional placements, stake-sale to repay debt,

gathered construction finance

Deferred capital- intensive projects such as shopping mall. Focused on budget
residential projects

6.3 FINDINGS
The present study examined the different aspects of the financial meltdown and the
consequent recessionary trend in the economy and the construction industry. The major
findings of the study are presented below.
Reasons for meltdown in construction industry:

Excessive dependence on NRI portfolios

Complete lack of addressal of affordable options
Excessive dependence on IT/ITES sector
Misplaced focus on global retail
Inappropriate / skewed risk allocation
Absence of National Real Estate Regulator
Inappropriate state level real estate policies
Lack of incentives for the right sizing the market
Orthodox urban planning systems
Primitive real estate investment avenues:

Effects on Indian economy

1. Capital outflows diminish financial market liquidity, depress the valuations, raising
the cost of capital and reducing the incentive to invest.
2. Export oriented industries such as garments and gems/jewellery take a hit.
3. FDI in India falls sharply.
4. All this leads to stock market collapse, slowdown in GDP growth, pay cuts,
decrease in investor and consumer confidence.
Effects on construction industry
110

1. Real estate market collapses overnight causing a serious damage to real estate
developers such as DLF and Unitech
2. Liquidity crunch increased the cost of capital creating difficulties in project
financing
3. Real estate industry downsizing its dwelling units and creating more affordable
housing
4. Large infrastructure projects remain largely unaffected due to the slowdown except
few exceptions
5. Government initiatives such as JNNURM, Bharat Nirman, etc help infrastructure
sector remain afloat
Strategies adopted by different construction firms in India
The major strategies adopted by the construction firms are listed below.
1.
2.
3.
4.

Asset sales as a means of countering immediate funding shortfalls.

The need for affordable housing
Qualified Institutional Placements (QIP)
Better debt management - focus on reducing their interest burden through

rescheduling its debt & de-leveraging whenever possible.

5. More focus on maximization of construction volumes than on maximization of
project realization. This it intends to do through
a. reduction in costs,
b. decrease in unit sizes &
c. reduction in margins
6. Putting projects on temporary hold or postponing the plan
These are the strategies adopted mostly by both infrastructure & real estate firms in India.

111

Bibliography

1. From (2008) The New Palgrave Dictionary of Economics, 2nd Edition:

a. Christopher J. Erceg. "monetary business cycle models (sticky prices and
wages)."
b. Christian Hellwig. "monetary business cycles (imperfect information)."
c. Ellen R. McGrattan "real business cycles."
2. www.amatecon.com Americas great depression December 28, 2007
3. The Subprime Crisis Implications for India by Anand Shankar, Madras School of
Economics.
4. Indias outsourcing growth seen to slow down, Financial Times, 5th February
2009
5. Asian Development Bank Report : The Impact of the Global Economic Slowdown
on South Asia
6. http://www.researchandmarkets.com/reports/661754
7. Indo Italian Chamber of Commerce & Industry: OVERVIEW OF THE
CONSTRUCTION INDUSTRY IN INDIA.
8. Global financial crisis and key risks impact on India and Asia Remarks by Dr
Rakesh Mohan, Deputy Governor of the Reserve Bank of India, 9 October 2008.
9. Indian Real Estate Market Understanding the Slow Down & Intitiatives for a
Turnaround by Prof. Dr. P.S.N. Rao, Professor & Head (Housing), SPA, New
Delhi.
10. Successful QIP Issue: Unitech to focus on affordable housing by Manmeet Singh
Loomba, Indian Infrastructure, May 2009.

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11. DLF Restructures by Manmeet Singh Loomba, Indian Infrastructure, June 2009.
12. Economy & Real Estate at a Glance, National Reality, Vol. I Issue-I, June 2009 by
Research Knight Frank Q1 2009.
13. PEs smell gains in core sector by Vandana, Business-standard, 29 September 2009.
14. www.rbi.org. Summary of the Annual Report of RBI for the year ended June 2009
date 27/08/2009 by Alpana Killawala Chief General Manager
15. http://www.articlesbase.com/real-estate-articles/New Government Initiatives to
Boost Real Estate Sector in India
16. India Infrastructure Report Q1 2009 Published Date: February 2009,Published
By: Business Monitor International
17. www.magicbricks.com Submitted by admin on July 6, 2009
18. www.thaindian.com article Government increases infrastructure funding
19. www.thaindian.com article World Bank approves $4.3-bn loan for India on
September 23rd, 2009
20. www.thaindian.com article World Bank gives $320 million loan for better roads in
Andhra October 16th, 2009 by IANS
21. www.chinaview.cn published on

2009-11-17 editor Wang Guanqun

22. www.thaindian.com article US Ex-Im Bank loan for Indias infrastructure sector
on August 10th, 2009 by IANS
23. Asia Business Generator Project Indian Economy Annual Report (2008
2009).Osaka International Business Promotion Center
24. Monthly review of the Indian Economy, Centre for Monitoring Indian Economy
(CMIE)
25. Reserve Bank of India Bulletin (March 2009)
26. Macro-economic and monetary developments (2008 2009) - Third quarter review
by Reserve bank of India.
27. Securities and Exchange Board of India (SEBI) Bulletin (March 2009)
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28. Advance Estimates of National Income Press Note by Central Statistical

Organization(CSO)
29. FDI Statistics from Department of Industrial policy and promotion, India
30. http://www.articlesbase.com/finance-articles/Hard Lessons to Learn from This
Recession
31. http://www.business-standard.com/india/news/subir-roy-lessonsrecession-roadahead/381729/
32. reports by IDFC-SSKJ Securities Ltd and First Global Securities Ltd
33. www.tribuneindia.com. - Impending recession: India unlikely to escape its impact
by Arun Kumar

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