The finance minister wanted to help overindebted farmers by giving them even more loans. I said in this column of 10 September 2004 that it was the wrong thing to do.
Generosity kills farmers
The finance minister declared in his budget speech that he
would triple banks’ loans to farmers in three years. This was a strange
decision in view of the fact that hundreds of indebted farmers in Andhra
Pradesh had killed themselves in the past few years. But he might have argued
that some loans are more lethal than others – that those farmers had killed
themselves because they had taken loans from private loan sharks, and that
government banks would never be so cruel to farmers. Which could also mean that
nice government banks, if denied repayment by their farmer borrowers, would
simply look the other way and walk away. That would add to their bad debts –
sorry, non-performing assets (NPAs) – which should worry no one. For Reserve
Bank would rig interest rates in such a way that the banks would get huge
margins; they would make such profits that they would have no trouble writing
off farmers’ bad loans. And if a bank was so stubborn as to go berserk on
improvident lending and even Reserve Bank would not save it, then the
government would give it securities to cover bad debts. In other words, if a
bank was reckless enough, it would be able to convert worthless farm loans into
first-grade sovereign government bonds. What better incentive do you need for
improvident lending?
If the quality of reasoning is so
poor, no facts can improve it. But the finance minister is an intelligent man;
more facts and better analysis may still improve his policies. I have just come
across some on commercial banks’ lending to farmers – let us call it Banks’
Agricultural Debt or BAD. As proportion of state agricultural GDP, BAD is
highest – 28 per cent – in Karnataka, and next highest in Andhra Pradesh and
Gujarat – 21%. It is medium – 15-19 per cent – in Maharashtra, Punjab, Haryana
and Madhya Pradesh. It is significant – 10-12% - in Tamil Nadu, Bihar and
Orissa. Debt service, if it were a quarter of BAD, would be 7 per cent of GDP
in Karanataka, 5.2 per cent in Andhra Pradesh and Gujarat, and under 5 per cent
elsewhere.
That does not sound very high.
But it is widely believed that banks lend mainly to big farmers. So I assumed
(with some inaccuracy) that productivity of small and big farms was the same,
and calculated BAD as a proportion of GDP arising from large and medium farms.
BAD was less than large farms’ GDP only in Punjab; elsewhere the debts far
exceeded annual income. BAD was 5.5 times the large farmers’ GDP in West
Bengal, 4.2 times in UP, 3.9 times in Bihar, 3.6 times in Tamil Nadu, 3.2 times
in Andhra Pradesh, 2.5 times in Karnataka and 2.3 times in Orissa. Such a
burden of debt would normally be unsustainable; at a servicing ratio of 25 per
cent, at a debt/income ratio of 2, a half, and at a ratio of 3, three-quarters
of the farmers’ income would go into servicing debt.
Such a high debt burden is
unrealistic, for a substantial part of the value added on a large or medium
farm must go to pay labourers; there is no way a large farmer can pay a half of
his income in servicing. It follows that a large proportion of the BAD in many
states has gone to small farmers. The truth lies somewhere between my first
assumption and my second. But it is likely that BAD has exceeded the borrowing
capacity of many farmers in the peninsular states of Gujarat, Maharashtra,
Andhra and Karnataka. If banks would not lend to them, their only choice is
suppliers’ credit from vendors of fertilizers and pesticides. It is only for
the growing season, and if they default, that is often the end of viability.
The credit the finance minister
wants to disgorge into agriculture may partly replace more expensive private
debt and give some relief to farmers. But for overindebted farmers, more BAD
can only be bad. Government banks cannot go on lending to farmers who do not
service their debt; and they are generally rather slow and inflexible, and do
not care to give short-term, naked credit for fertilizers and pesticides. So
the more government banks lend and the more farmers become overindebted to
them, the more farmers will borrow from private lenders, and the more will
commit suicide. The fault lies in the giving of fixed-interest loans to fund
equity. Economic advisers can be found who would tell otherwise, but the laws
of economics cannot be bribed into saying something different.
