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No lessons learnt
The multi-crore Saradha Scam was the largest of scams to have hit West Bengal. It drove many of its victims to destitution and some to suicide and left behind a shattered rural economy. But lessons from the scam remain to be learnt.

The supreme court of India by its order dated May 2014 has transferred the investigation of Saradha Scam to the CBI citing interstate ramifications and political nexus (leaving behind a red faced Mamata Banerjee).  Many political observers now hope that the CBI investigation would reveal what the state investigation did not due to high connections.  

There is a need to look back at this scam to understand its ramifications both for the economy of West Bengal and for the future of the financial health of India at large and ask hard questions on why such scams go on.

The scale of the scam and its aftermath are described best by one interviewee to a Times of India reporter.  He described the aftermath scene as follows: “the entire Dakshin Barasat today looks like it was hit by a cyclone.  Every home has a bankrupt depositor or a fugitive agent.  People who were friends have turned enemies.  Happy households have become miserable.  Students have stopped going to school.  Traders have lost interest in opening shutters. There is a sense of treachery that has replaced the warmth of a neighbourhood.  Suddenly everything has become vicious.”


Hit the most vulnerable rural poor...

The viciousness of Saradha scam was that it seared the most vulnerable section of the society ie the rural poor.  Most of the investors who lost money had invested Rs 10,000 or less over a long period of time from their monthly savings.

 

West Bengal - the Ponzi Capital of India

While one can empathise with the human cost of the scam, it must also be mentioned that Saradha scam was not the first scam to hit West Bengal.  The state has a history of Ponzi scams like Sanchayita Investments, Overland Investment Company, Verona Credit and Commercial Investment Company.  In Bengal, many fly-by-night companies and Ponzi operators have sold timber bonds, teak bonds, time share bonds and tea bonds and successfully duped investors in the 1990s. The Saradha scam stands out only because of its sheer scale and political patronage it received over the years.

It is estimated that over 60 firms operate various Ponzi schemes in West Bengal giving it the moniker “The Ponzi Capital of India.”  One estimate pegs the total amount of funds amassed by these firms to upwards of Rs 10 lakh crore or USD 200 billion (It may be noted that Saradha Group alone could amass Rs 17,000 crore with its web of companies).   To get a sense of perspective, the Rs 10 lakh crore figure exceeds the annual nominal GDP of West Bengal (which stands at Rs 7 lakh crore as of 2013).   

One must note that a Ponzi scheme is destined to fail by its design.  It will sooner or later reach a stage where the pay-ins (ie the monies collected from new investors) would be less than the payouts (or returns to be given to old investors).  In simple words, the Ponzi scheme would soon run out of cash.

 

Why Ponzi Scams continue to happen?

But how is it possible that such scams have an unmistakable affinity to rural India in general and Bengal in particular? Or why do people invest in these companies in spite of a chequered history of the past? One can try to answer this riddle.

    The first and foremost reason why Ponzi scams happen is because India has a very large rural population with very low-income and little or no access to formal banking facilities.  It is not a co-incidence that most Ponzi scams operate in states with low banking penetration like West Bengal.  Looked another way, the Ponzi companies are only filling up the spaces left by the formal banking sector of the country.     

    The second reason why Ponzi scams happen is because the formal banking has shown a continuing decline in interest rate.  Every person wants to invest in a secure investment which gives returns greater than the rate of inflation.  If not, his savings continue to decline.  The savings account and fixed deposit account have failed to provide a reasonable rate of return.

    The third reason is lack of alternative investment options.  In the past, the Postal savings scheme was a good saving scheme but with dwindling interest rate in the 1990s and increasing inflation in the last decade,  few people now choose this route for investment.

    Other factors like lack of financial li-teracy, investor awareness and complexity of documentations play important roles in dissuading the investors from the formal banking investment options.

    Lastly, the political clout that the Ponzi companies wield is enormous which gives them a cover of invincibility and veneer of respectability.  Consider for example that Kunal Ghosh, an MP of Trinamool Congress, drew a salary of Rs 16 lakh per month from Saradha Group and another MP ‘Srinjoy Bose’ was directly involved with the media operations of Saradha Group.  While Transport Minister Madan Mitra headed the employees’ union of Saradha Group and publicly encouraged people to invest their savings with the company, Mamata Bannerjee is alleged to have sold her paintings to Saradha Group for Rs. 1.8 crore. Surely she is no M F Hussain.

 

So what is the solution?

The problem of Ponzi scheme as demonstrated in Saradha scam, is complex and has many socio-economic ramifications.  What is needed is incremental change in the socio-economic sectors starting from the village and rural economy in particular.

1.    The state must endeavour to create alternative investment options for the rural economy which would provide safe investment options for the rural poor.  Such investments would help to act as a social security net and also prevent destitution and many other socio-economic problems.

2.    While RBI has already come out with its private banking guidelines to increase rural connectivity as a priority sector, it is necessary to fill the spaces of unbanked areas and create seamless banking connectivity from urban and rural India.  Endeavour must be made to remove financial barriers like minimum amount of deposit for bank accounts and non-financial barriers like documentation in local language.

3.    To mobilise rural savings and increase penetration of banking, it is recommended that tax concessions and higher interest rates can be provided for first time depositors in the fixed deposit accounts.

4.    States like West Bengal have now passed West Bengal Protection of Interest of Depositors in Financial Establishments Act 2013 after the fiasco to protect interest of investors. There is need to replicate such acts at the national level.

5.    While SEBI has elaborate powers and mechanisms for controlling such Ponzi schemes (covered by its regulatory powers on Collective Investment Schemes), its  Achilles heel lies in co-ordination with the state authorities to enforce its diktats.  Better Centre-state co-ordination will lead to greater enforcement of SEBI orders at the grassroots level and prevent a repeat of Saradha like fiascos.

6.    Finally, there is also the need to create a strong deterrence by increasing civil and criminal penalties and also preventing such scams before they reach their fruition always reacting after the damage is done. Whoever the perpetrator, high or low, whatever his or her connection, should be subjected to the strictest penalty.

The Saradha Fiasco is only a reflection of collective negligence and apathy that have been built into the financial and regulatory system over the years. The socio-economic problems such scams cause are phenomenal because those who suffer the most are the poorest of poor. If socio-economic issues do not stir the conscience of the state, there is also an argument of national security. Large funds that are generated can also be used for anti-national activities and pose a serious and direct challenge to the administration. Allowing a large parallel economy to prosper on rural deposits can also lead to a new round of Naxalism.  

It is time that the state act and speed.

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