Pliant systems

Harshad Mehta, the architect of the 1991-92 securities scam, after his arrest in November 2001 in a fresh case of misappropriation from "missing shares". He died soon after, on December 31, 2001.-AFP

There are some frauds so well conducted that it would be stupidity not to be deceived by them.

Charles Caleb Colton.

TIME and again over the last six decades, leaders of the Indian economic regulatory system and large segments of the public have appeared to prove the truth of this pithy comment from the 19th century British author. From scams of the Dalmia and Mundhra insurance companies of the 1950s to the Satyam swindle of the present times, corporate India some sections of it, to be precise has crafted frauds of amazing ingenuity. They have thrived side by side with political corruption, and more often than not there has been a symbiotic relationship between the two streams of deceit. The fraudsters have straddled various segments of economic and fiscal activity ranging from insurance and banking to information technology and infrastructure development. They have pulled off their act through diverse political, economic and regulatory regimes.

According to E.A.S. Sarma, former Secretary in the Ministry of Finance and an ardent campaigner for corporate accountability, the corporate frauds that have come to the fore since Independence can be broadly classified into three phases and categories: those perpetrated during a period when regulatory mechanisms were virtually non-existent; those that can be termed as regulatory capture because they were advanced using the very regulatory norms that were supposed to ensure a strict and exacting regime; and those that came up in an unbridled manner in a climate of liberalisation. Chronologically, the first phase consisted of the decade and a half following Independence. The second phase extended to a period of nearly two and a half decades between the mid 1960s and the early 1990s. The third and current phase started in the early 1990s with economic liberalisation.

Two important cases in the first phase were the insurance embezzlement cases involving industrialists Ramakrishna Dalmia and Haridas Mundhra. The Dalmia case was unravelled in 1956 when Ramakrishna Dalmia, then chairman of Dalmia-Jain Airways and owner of Bharat Insurance Company, admitted in a written confession, much like Satyam chief B. Ramalinga Raju, that he had embezzled funds to the tune of Rs.2.2 crore from his insurance company. He faced trial and was sentenced to two years in jail. More importantly, the scandal led to the nationalisation of the insurance sector.

In 1958, Feroze Gandhi, the maverick Congress politician and Indira Gandhis husband, exposed yet another scam in the insurance sector, this time involving Mundhra. The case involved investments to the tune of Rs.1.25 crore of Life Insurance Corporation of India funds in six companies owned by Mundhra. Finance Minister T.T. Krishnamachari, Finance Secretary H.M. Patel and LIC Chairman L.S. Vaidyanathan were accused as perpetrators of the illegal investment. The Finance Secretary was indicted and T.T. Krishnamachari resigned as Finance Minister.

In 1960, yet another corporate scam came to the fore when the businessman Dharma Teja siphoned off Rs.22 crore, a sum he borrowed from the government to start a shipping company, to accounts abroad. The law caught up with Teja in Europe, and he was jailed for six years.

These scandals were believed to have been made possible by the absence of well-defined regulatory mechanisms, and efforts were made to strengthen such mechanisms. According to observers of the financial sector, the 1960s was a period in which the government initiated several measures to put in place stringent regulatory mechanisms to control the sector. Among the notable initiatives of this period was the defining of norms for industrial licensing and allocation of bank credit.

However, many corporate bigwigs used these mechanisms to advance their private business interests, as the Dutt Committee report of 1969 pointed out. It said that the very norms meant to regulate industrial licensing and distribution of bank credit had become tools for increased concentration of industrial licences and funds in the hands of a few houses.

The Birla group of companies was identified as one of the major beneficiaries of this regulatory capture. The Dutt Committees findings led to the initiation of new mechanisms such as the Monopolies and Restrictive Trade Practices (MRTP) Act. The stated primary objective of the Act was to ensure that the operation of the economic system does not result in the concentration of economic power in the hands of a few, but that did not deter the sanctioning of a rare car manufacturing licence to Sanjay Gandhi, the younger son of Prime Minister Indira Gandhi.

This trend of regulatory capture continued through the 1980s with a spate of corporate scams. The Maharashtra cement scandal involving Chief Minister Abdul Rehman Antulay and the Thal Vaishet project involving Snamprogetti and its representative Ottavio Quattrocchi an acquaintance of Congress president Sonia Gandhi provided striking instances of the trend. Antulay was forced to resign when the Bombay High Court ruled that he had illegally required builders in the Bombay (Mumbai) area to make donations to the Indira Gandhi Pratibha Prathisthan, one of several trust funds he had established and controlled, in exchange for receiving more cement than the government quota allowed them to buy.

The accused in Thal Vaishet case included Petroleum Secretary H.N. Bahuguna and Petroleum Minister P.C. Sethi. An engineering consultancy contract for setting up fertilizer projects at Thal Vaishet and Hazira was awarded to Haldor Topsoe and Pullman Kellog in violation of norms. Snamprogetti had approximately 50 per cent share in Haldor Topsoe.

The 1980s also witnessed the strengthening of the Indian financial markets, and along with that came scandals relating to stock-market rigging. Many corporate entities, including Dhirubhai Ambanis Reliance, were accused of rigging the stock market in the early 1980s. The bull-bear tussle in the Bombay Stock Exchange (BSE) over Reliance shares created such unprecedented mayhem that the BSE had to be shut down for three days in 1982. There were pointed accusations about Reliance using slush funds brought in from tax havens like Isle of Man to rig the market. However, an inquiry by the Reserve Bank of India (RBI) failed to establish these charges.

By the early 1990s, there was a clamour from large sections of the industrial and business communities for relaxing the regulatory mechanisms. P.V. Narasimha Raos government, which came into office in 1991 with Manmohan Singh as Finance Minister, initiated the era of economic liberalisation. Regulatory controls have been systematically relaxed from then onwards. According to some observers, the Indian capital market was strengthened, and this in turn led to a kind of turf war between the RBI and the Securities and Exchange Board of India (SEBI). The cumulative effect led to another wave of corporate scams.

The first was the Harshad Mehta scandal of 1991, and the money involved was of gigantic proportions. The Harshad Mehta securities scam, which allegedly involved players as diverse as Grindlays Bank, Citibank, the State Bank of India and Stanchart, was to the tune of Rs.10,000 crore. This was soon followed by the Ketan Parekh scandal (1997-2000), the Unit Trust of India (UTI) scam and the Global Trust Bank scam (2001). Taxpayers money to the tune of Rs.4,800 crore had to be invested to bail out the UTI. These scandals exposed the total absence of supervision in the money markets and the way the markets had been allowed to be controlled by fly-by-night operators. It is the continuation of this trend that has resulted in the Satyam scam, said to be the biggest corporate scam of independent India. According to many experts, the full dimensions of the scam, rated at Rs.7,000 crore at present, are yet to unravel.

Talking to Frontline, E.A.S. Sarma pointed out that the weakening of regulatory mechanisms and the highly integrated nature of the financial markets provided opportunities for multi-dimensional scams. And that is exactly what is happening. From insurance to banks to stock markets, frauds have moved on to areas like information technology. Land mafia, too, has become an integral part of these frauds.

According to Professor K.S. Chalapati Rao, industrial policy and corporate studies expert attached to the Delhi-based Institute for Studies in Industrial Development (ISID), the present economic climate demands the initiation of new regulatory mechanisms. He suggests the introduction of audit by the Comptroller and Auditor General for all large corporations; making public information on all companies small or large, public or private, listed or unlisted; bringing back development financial institutions; reassessing the role of portfolio investors; and strengthening the policing of politicians through genuine Lok Ayuktas.

The big question, however, is whether those who manage the countrys economy guided by the political and economic philosophy of liberalisation share the same concern.