A simple way to help the Unincorporated(UnInc) sector of Indian economy

A simple way to help the Unincorporated(UnInc) sector of Indian economy
A simple way to help the Unincorporated(UnInc) sector of Indian economy

In his post yesterday, Prof. R Vaidyanathan cautioned the Government about the headwinds Indian economy is facing. What is wrong with the current system is that the UnInc sector pays up to 2% interest per month on their loans, typically from loan sharks. In many instances they are their only source of lending. Niti Aayong may alleviate this somewhat in that it has schemes to help people develop skills but it is not the job of the Government to lend money through banks. We all know what happened to the Public Sector Banks. Instead, Government should set up the infrastructure to allow common people to invest in Un-incorporated sector and create a vibrant marketplace. Beyond playing the role of a regulator, the Government has no other expense. How can this be achieved?

Enter Crowdfunding, a new concept that brings small investors to companies that are in need of liquidity. This is an idea which is just getting formalized in the United States but it can be applied to solve the problem of creating liquidity for the small sector manufacturer. In fact, Micro-financing is another way of doing except, for the scale. Based on the United States Securities and Exchange Commission (SEC) Regulation Crowdfunding it provides a framework for the regulation of registered funding portals and broker-dealers that issuers are required to use as intermediaries in the offer and sale of securities such as Stocks and Bonds.

A Portal is a website that brings together UnInc entities to present the investing opportunities and for investors to buy securities (shares/ debentures/ bonds etc.) from these entities. Issuers are the UnInc entities that are desirous of raising liquidity in the market.
How is this different from a typical Stock Exchange such as the National Stock Exchange (NSE) or the Bombay Stock Exchange(BSE)? Here are some critical differences:

  • The amount raised must not exceed Rs.1 crore ($150,000) in a 12-month period. It is similar to doing an IPO every year…
  • The individual investments in all crowdfunding issuers in a 12-month period are limited to:
    1. the greater of Rs.50,000 or 5 percent of annual income or net worth, if annual income or net worth of the investor is less than Rs.12 lakhs ($18,000); and
    2. 10 percent of annual income or net worth, if annual income or net worth of the investor is Rs.12 lakhs ($18,000) or more; and
    3. In a 12-month period the aggregate amount of securities sold to an investor may not exceed Rs.12 lakhs

  • Transactions must be conducted through an intermediary that either is registered as a broker-dealer or is registered as a new type of entity called a “funding portal.”

The threshold amounts mentioned above are not fixed but will evolve. The concept, however, ensures that the exposure to individual investors is contained and there will be checks and balances in the system to ensure that malfeasance is detected and rectified quickly.

For a scheme like this to succeed, a reliable identification mechanism is needed. Enter Aadhar card, which can be used as the authentication platform. Additionally, a proviso could be introduced to mandate that Retinal Biometric (this is not done for all Aadhar card holders) be necessary. Retinal Biometric (Iris pattern recognition) does not change for the life of a person (fingerprints can fade over time).

Institutional investors, funds etc. should be kept out. Only individuals (NRIs are fine as long as they have the Aadhar card) can invest. Just like Stocks, investors can buy and sell these securities. If multiple Portals are allowed to operate, the competition will ensure that the system is robust and efficient.

Other than setting up the infrastructure, the Government has to only regulate the system. The portals themselves can be profitable by charging nominal transaction fees. All money transactions should be online thereby reducing the scope for use of illegal currency. It will also do away in time the chit fund menace that scourges India from time to time.

Note:
1. The conversion rate used in this article is 1 USD = 67.04 Rupees.
2. Text in Blue points to additional data on the topic.

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