Not a Bankable Idea: DNA, 28th May 2007

Not a bankable idea
May 28, 2007
The Reserve Bank of India (RBI) has recently announced that bank lending to minorities would be considered as priority sector lending. It has been further notified that if a minority community is in a ‘majority’ in a state, then it would not qualify for this status. This ruling is, in fact, a sweetener from the original demand that banks keep aside a certain part of their total loans for the minorities. Will this work?
The RBI, decades back, had decided that if banks were to lend money to borrowers based on their own priorities, they would tend to lend to those who are more likely to repay the money. Therefore, while large industry and other affluent sectors would readily receive loans, certain vulnerable sectors which are needed for the growth of the country would be left out of the credit stream and would have to rely on the local moneylender for finance.
Therefore, banks were asked to ensure that 40 per cent of their total lending goes to what was called the priority sector. The priority sector includes, inter alia, agriculture, small scale industry, and weaker sections of society (small and marginal farmers, landless labourers, tenant farmers, scheduled tribes, among others). Within this limit, 18 per cent had to be kept aside for agriculture and 10 per cent for weaker sections. In this manner the RBI ensured that given the social aspirations of banking, funds would be evenly distributed across all sectors. The sectors, mind you, have been defined in terms of either those which are critical for development as they have both growth and employment potential, or sections of society which are economically backward. Hence, this sectoral classification enables channelling of funds to all segments. We have had a report on financial sector reforms in 1992 called the Narasimham Committee Report which recommended that we dilute this pre-emption as it goes against the fibre of liberalisation. Now, this ruling of the RBI, which has political undertones, will take reforms a few steps back.

The problem of now including minorities under priority sector lending, has practical and ideological implications. Let us look at the practical side first. Banks can now lend to minorities such as Muslims, Sikhs, Christians, Parsis and so on and have it included as lending to priority sector. To meet their targets now, they could actually lend to rich Sikh farmers in states other than Punjab and hence get away from lending to the marginal farmers who carry higher risk. Also, hypothetically, loans to Nusli Wadia and Azim Premji, who belong to the minorities, would further help banks to meet their targets. The notification hence is quite easy to circumvent and banks may find this a convenient route to come closer to the 40 per cent target without diluting the quality of their asset portfolio. In this process, the truly needy could get left out.
Also, at the ideological level, can lending to a person by virtue of birth be good enough to be classified as a priority for banks? Let us take an example here. Suppose a banker who has limited funds gets two applications for loans, one from a Hindu and another from a minority category individual with a similar economic background. There would be an incentive for the banker to lend to the latter to meet the target, which would place the former at a disadvantage. The second issue is that once we accept such rulings without opposition, there is nothing to stop the RBI from bringing in the caste factor at a later date. Let us not forget that similar logic was behind the theory of reservations in the past where social and not economic factors proved to be the clinching factor.
The third issue goes back to the question of reforms: should banks be mandated to lend to anyone for that matter? Banks today are commercial entities which are driven by profit and are answerable to shareholders. They need to run their business based on business judgment and not government concerns. In fact, priority sector lending is soon going to become an anachronistic concept as banks such as ICICI Bank are willingly rushing into the agriculture sector as they see a great business opportunity. Taking into account both the practical and ideological aspects of treating lending to minorities as priority lending, this move of RBI needs to be looked at with a certain degree of reservation.