By Prashansa Srivastava
On Thursday, the Reserve Bank of India (RBI) Governor Urjit Patel cautioned against the increasing farm loan waivers by state governments. He highlighted the adverse impact of loan waivers on the balance sheets of lending institutions, the finances of states, and interest rates. The RBI’s Monetary Policy Committee (MPC) pointed out that these debt waiver packages could also stoke inflation.
Impact on the economy
The debt waiver scheme has serious implications, including a multiplier effect on the economy. The cumulative debt relief announced by the Uttar Pradesh, Punjab, and Maharashtra state governments amounts to around Rs 77,000 croreor 0.5% of Indias 2016-17 GDP. This defies macro-level fiscal prudence. Moreover, repayment of loans of such huge amounts will lead to staggering fiscal deficit finances in the form of higher than budgeted revenue expenditure. A higher fiscal deficit is typically funded through borrowings. When government borrowing increases, it crowds out the private sector and causes interest rates to rise for the entire economy. This then acts as a hurdle to faster-paced economic growth.
Doling out such mammoth sums would also adversely affect the availability of funds for pressing developmental needs and force cutbacks in other areas of expenditure. This will jeopardize Indias stated aim to reduce its total public debt to 60% of the GDP as it worsens states debt-to-GDP ratios.
So far, Uttar Pradesh, Karnataka, Maharashtra, Punjab, and Tamil Nadu have announced farm loan waivers. There is a strong possibility of contagious spread to other states, exacerbating the problem of rising fiscal deficit. This is detrimental to the progress of these states, as well as the country.
The drawbacks of loan waivers
Loan waivers are said to undermine an honest credit culture, destroying the discipline of any functioning credit system and jeopardizing the repayment of similar loans in the future. Money that is being repaid to banks is being paid by the government. However, when the farmers have debts in the future, they will wait for the next election. The huge bad loans of the banking system already threaten macroeconomic stability and future economic growth. Encouraging a climate of default at this stage creates a vicious cycle of loan default and in no way makes farmers independent, thus proving to be counter-productive and offering little gains to farmers in the long run.
Moreover, the scheme may end up compounding rather than alleviating the woes of defaulters and heavily indebted farmers by making them eligible for fresh credit despite their inability to earn enough to repay their existing loans. The move does not address the larger issue of farmers’ indebtedness to informal credit sources such as moneylenders, who charge usurious interest rates. Banks are also cautious to lend to farmers, which may result in high collateral requirements, reduction of the quantum of loans, lengthy and complex documentation requests, and other procedural hurdles to deter disbursal of loans to farmers. This could lead to even more increase in dependence on informal credit sources. Loan waivers fail to target the most impoverished landless farmers and farmers being exploited by the informal credit system, instead benefitting wealthy farmers. This faulty targeting of beneficiaries results in discrimination.
What farmers need for their survival is income, and not so much debt relief. In other words, instead of a short palliative measure, the country needs agricultural renewal and productivity improvement. In the long run, strengthening the repayment capacity of the farmers by improving and stabilising their income is the only way to keep them out of distress.
Undertake policy interventions instead
The loan waiver scheme is an effort that cures symptoms than causes. It has high visibility but is unlikely to produce lasting results in the development of farm sector. A large amount of money being spent could have been used to usher in fundamental reforms in agriculture to make it market oriented and profit centred.
Farm loan waivers have mostly been used as a quick fix tool by governments to temporarily address the problem of farmer distress. Instead of an economic reform, they are a populist move by a government more concerned about getting due credit at the ballot box. The government must take policy interventions instead of resorting to such acts of political expediency. Policy reforms include crop insurance, infrastructure, irrigation, technology-enabled productivity improvements, and opening up the farm economy to market forces and open trade. Such reforms can help improve farmer incomes and also encourage farmers to seek their livelihood in more profitable sectors of the economy.
Loan waivers impair quality of public spending and benefit neither the distressed farmers nor the banks. The increasing use of them by the Indian political class will spell doom for economic stability, growth, and the agriculture sector itself.
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