Cooperative banks are another legacy of the socialist era that became involved in underhanded financial schemes. These were setup to finance high-risk agriculture in a particular state or district and the local politicians would invariably dominate the boards of such banks. Taking deposits from small investors and financing local agriculture was a nice way of winning rural votes for the political parties.
At about the time of the dotcom boom, a broker named Sanjay Aggarwal had setup his company Home Trade to run an internet trading business. Unfortunately for him the boom was followed by the rapid bust of the dotcom business and Aggarwal was swamped in debt. Using his business connections the broker returned to the business of trading in gilt securities—to finance these operations he began borrowing heavily from the cooperative banks.
But instead of trading Aggarwal quietly swallowed the money. Whenever the gilt prices rose he would send the price difference to the particular co-op as profit. And he continued borrowing from other cooperatives, using the money to pay off the earlier loans, in an unsustainable ponzi scheme. All this financial activity implied that Home Trade’s business was flourishing and the banks innocently (and some in league with Aggarwal) continued lending huge amounts of their depositors’ money.
At this time (2001-02) Aggarwal’s broker friends were illegally transferring the bank money to invest, not in gilt securities, but directly in the stock market. These investments tanked with the depressed market and the banks, who were not getting any profits as in the past, now demanded the receipt of their securities.
At last the game was up. The Reserve Bank of India began investigating the matter and exposed the scam. The politicians in the cooperatives demanded Aggarwal’s head and had him and his friends arrested. Once again small investors and employees of Home Trade were left to clean the mess.
The amount involved in the scam was not huge (Rs. 600 crore) but it exposed three separate cracks in the emerging Indian Economy. The criminality of the past socialist era financial structures, the reckless greed of the brokers, and the appalling lack of regulation in the newly liberalized economy.
