View | There’s a solution to Uday Kotak’s concern about nepo kids

One of India’s biggest bankers, Uday Kotak, is worried about the next generation of billionaire families choosing to manage investments instead of doing something on their own. What he has observed may be a symptom. The cause could be the structure that incentivises capital a lot more than effort.

Money lenders have had disproportionate power in India, forever! Funding a project was always more profitable and less risky than actually executing it. It was natural when capital was scarce. Today that’s not the case and yet, long-term capital gains in India are taxed at 12.5% and business profits are taxed at up to 35%. One has to go up or the other has to go down.

The phenomenon has been amplified post-1991 and more so, since the 2008 global financial crisis, post which capital became cheap and the returns exploded. If I can invest in, or lend money to, a bunch of businesses or startups and all I need is for one of those 1,000 to click, why would I do anything else? Especially if my livelihood, lifestyle, or prospects don’t depend on it.

Non-nepo kids, people from smaller cities and towns take the plunge, despite the unfair incentive model, because they have no choice. Their identity, livelihood, and prospects depend on doing something. Nepo kids have to stake the family reputation and identity, not just the wealth built over generations, if they decide to start something new.

The arbitrage between finance and effort was much less when the previous generations came of age. That’s not the case anymore. It would be unwise for the next generation to stake more for less.

India has always minimised the risk for the financier and maximised the risk for the manufacturer and entrepreneur. However, almost every conversation about ease of doing business boils down to labour law reforms. Everyone wants the humble worker to take the risk of getting fired but tell a banker or venture capitalist to take an extra rupee’s risk, they may ask for sizeable equity in return, when they don’t deny it altogether.

The situation for a new or small entrepreneur is a lot more difficult. Whether it is raising equity or debt, investors will ask for the last piece of the family silver to be put on the table. Social safety nets are still under construction in India and their absence has further limited the scope to do things for those who aren’t from families with big businesses.

As long as you can make more money by investing and less from building, the trend that Mr Kotak has observed may continue.

Culture and economy don’t exist in isolation. They inform and shape each other. The incentive structure needs to change if we want more manufacturers, builders, and entrepreneurs and all change comes at a cost. How much of that cost are the bankers and capital-wallahs willing to bear?