This is an apocryphal story. A former chief of a very large public sector bank narrated this to me last week after he read this column which discussed India’s public sector banking industry’s massive preparations for the Rs71,700 crore agricultural debt waiver scheme, involving some 43 million farmers.
Once upon a time, there was a king who loved walking on the streets but didn’t like the idea of making his feet dirty. So, he announced a hefty award for the person who could solve his problem.
The first person appeared on the scene with millions of brooms. His efforts to make the country dust-free went in vain even as the cloud of dust, formed over the kingdom, made the king sick. The second aspirant for the award ended up killing millions of goats and sheep but still couldn’t cover half of the roads with their skin. Finally, a cobbler entered the royal court, carrying two sq. ft of hide in his bag. He measured the king’s feet and within hours stitched a pair of sandals. Now the king could roam around on the dusty roads with ease.
“The story is quite nice but how is it relevant in the context of farm loan waiver?” I asked the banker. He told me had the government looked for a common-sense solution to the farmers’ plight, it wouldn’t have to resort to periodic loan waivers. “The government should cover the king’s feet instead of trying to make the kingdom dust-free. If the farmers get money from banks when they need, the problem is solved,” he said.
The government wants the banks to complete all formalities of the loan-waiver scheme by the end of June as the farmers must get fresh loans before the kharif season of crop production starts. Kharif crops are usually sown with the beginning of the first rains in July, during the south-west monsoon season, both in rain-fed areas as well as irrigated areas. In the rabi season, during the winter months, agricultural activities take place only in the irrigated areas.
Banks are never eager to lend money to the farmers because the price at which they lend to them does not even cover the cost of money. Under the government’s diktat, public sector banks lend to farmers at 7%. The government, on its part, offers another 2% to banks (as a subsidy to farmers), taking the effective interest rate to 9%. Typically, for a small Rs25,000 farm loan, banks’ transaction cost alone is around 10%! For a Rs3,00,000 loan, which is also given at 7%, the transaction cost is much less — about 1% or so. Since the banks cannot make farm loans a profitable business by charging the right interest, they are always reluctant lenders. They also do not monitor the end-use of such loans. In the process, at least some of the farmers use the bank loans to lend to others at a very high rate. In other words, the farmers themselves turn moneylenders!
The government does not only dictate the price at which banks should lend to the farmers but also the quantum of loan. Since the Congress-led United Progressive Alliance government came to power, the finance ministry has been goading banks to double agriculture loans every three years. Instead, if it makes the farm loan business remunerative for banks, farmers will never face a resource crunch and this, in turn, will make agricultural activities remunerative for them. Of course, many other issues such as rural roads, storage of perishable commodities, and minimum support price for certain commodities are involved but availability of money is the biggest problem for the farmers.
The latest All India Debt and Investment Survey reveals that share of institutional agencies in the total debt of urban households rose from 72% in 1991 to 75.1% in 2002 and that of moneylenders had also increased from 10.2% to 14.1%. However, during the same period, the share of institutional agencies in rural debt had declined from 64% to 57.1% and the share of money lenders’ risen from 17.5% to 29.6%. Out of every Rs1,000 in debt in farmer households in India, on an average Rs257 is sourced from moneylenders.
The share of moneylenders in rural indebtedness in Andhra Pradesh is as high as 53% and in Bihar, Manipur, Punjab, Rajasthan and Tamil Nadu it is between 32% and 39%. The rates charged by the moneylenders are anywhere between 25% and 100%.
Banks can substitute moneylenders in rural India only if the government allows them to charge realistic interest rates. What is a realistic interest rate? According to bankers, it could be between 12% and 14%, depending on the size of the loan.
For a farmer, bank loan at 14% will be any day preferable to paying 40% to a moneylender. This will be a win-win situation for both the lender and the borrower, making their businesses remunerative.
Meanwhile, banks can also use this opportunity to bring 43 million customers into their fold by using technology. If they can distribute biometric smart card to borrowers whose loans are being waived, they will be able to create a large database of customers for whom the smart cards would serve as a proof of identity and an electronic passbook. In addition to loans, the card will allow banks to offer a suite of products such as investments, remittances, credit, life and general insurance and so on, opening new business avenues. Mumbai-based Financial Information Network and Operations Ltd — a company that provides smart-card based multi-application solutions to the unbanked — has already distributed over 1 million such cards.
Tamal Bandyopadhyay keeps a close eye on all things banking from his perch as the Mumbai bureau chief of Mint. Please email comments to firstname.lastname@example.org