MUMBAI - India’s biggest investor is feeding moral hazard. Life Insurance Corporation is developing an unhealthy reputation for being a bailout agency by buying New Delhi’s cast-offs, most recently a failing bank. With assets of around $400 billion, LIC can absorb short-term losses, but some of its largesse is fuelling long-term pain by encouraging poor governance at the heart of India Inc.

The state-owned behemoth is the most trusted name for Indians of all income groups looking to diversify their savings away from cash and gold. While up-and-coming private insurers rely more heavily on banks to sell their products, LIC has over one million agents and, as a result, had a nearly 70-percent share of new business premiums in the year to September. That makes the stream of negative publicity around LIC’s role in financial markets all the more troubling.

The insurer is also bailing out one of the country’s most troubled state lenders, set to acquire a majority stake in the $3.6 billion IDBI Bank, which had gross bad debts amounting to roughly a third of loans. To clear the deal, regulators waived a single stock ownership limit.

All of this comes after years of aggressively buying shares in state-run companies like Indian Oil Corporation and Coal India to support the government’s ambitious sale targets and help keep the fiscal deficit in check. That creates the impression LIC is doing New Delhi’s bidding, rather than prioritising returns.

As a top shareholder, LIC also appears to have played a too-passive role. It owned 25 percent of IL&FS when the infrastructure lender defaulted on some of its $13 billion of debt, prompting a liquidity squeeze and forcing the government to take charge earlier this month. The company is subject to a fraud investigation. But the government has also promised IL&FS won’t fail, meaning speculation is rife that LIC could be roped into yet another rescue.

The insurer’s long investment horizon means that playing contrarian can generate rich rewards. Also, its sheer size means it can digest moderate losses. But if there is always a willing buyer or a lifeline lurking around the corner, there is less incentive to run things properly in the first place. That's a problem for the whole market.

On Twitter https://twitter.com/ugalani

CONTEXT NEWS

- State-run Life Insurance Corporation of India on Oct. 4 launched a tender offer to buy shares of IDBI Bank as part of its plan to acquire a 51 percent stake in the $3.6 billion government-backed lender.

- IDBI Bank had gross non-performing assets (NPA) worth more than 30 percent of its total advances as of the end of June.

- Separately, LIC owned more than 25 percent of IL&FS when it defaulted on portions of its $13 billion of debt, prompting New Delhi to take charge of the infrastructure lender on Oct. 1.

- LIC had assets of 28.5 trillion rupees ($384 billion) as of end-June 2018. The gross NPA of its debt portfolio was 6 percent, compared to 4.33 percent a year earlier.

- For previous columns by the author, Reuters customers can click on

- SIGN UP FOR BREAKINGVIEWS EMAIL ALERTS: http://bit.ly/BVsubscribe

(Editing by Clara Ferreira Marqes and Katrina Hamlin)

© Reuters News 2018