The revised norms on priority sector lending, which would eventually cover all foreign banks over a period of time, signal the seriousness of financial inclusion as a goal to be achieved. There has been a sub-provision made of 8% for small and marginal farmers and 7.5% for micro units, besides 10% for weaker sections. Foreign banks with over 20 branches have to comply with these targets by 2020. Those with less than 20 branches can continue to lend up to 32% for exports and increase this to 40% gradually and incrementally to other priority sectors. The level-playing field across banks in this respect would hence be achieved.
The objective to make credit accessible is laudable, and considering that we have witnessed extreme distress to farmers resulting in their inability to service their loans, a solution was needed. Loan waivers is a medium used often to assuage the interests of farmers, but the damage done in the interim in the form of farmer suicides is worrisome. However, the fact that the banking system is going through challenging times is also a consideration when viewing this measure. The question that is often posed is, whether we are taking financial inclusion too far when it comes to lending, especially so since banks today are commercial entities which are answerable not just to shareholders but also subject to global standards of regulation by RBI in terms of quality of assets and capital adequacy?
The factual is that banks often tend to miss their priority sector targets and rarely cross the number of 40%, which means that the counter-factual would also hold that it is not too attractive in terms of a business. If it were so, banks should be lending more to these segments as part of their business models and not seek recourse through participatory certificates or the RIDF route.
This is due to the reason that NPAs tend to be higher—for PSBs these were 5.2% as against 4.5% for non-priority sector loans in 2014. In fact, the non-priority sector segment had a lower ratio in 2013 and conditions have exacerbated due to issues in the infra space, which hopefully will have a solution. In case of priority sector loans, given that these are normally generated by the farm sector where climatic conditions are erratic, the ratio has tended to vary with the state of the monsoon.
Also, given the small size of these loans, the administrative, monitoring and recovery costs are higher. Physical access may not be a major issue for the rural financial ecosystem if we include commercial banks, regional rural banks (RRBs) and cooperative banks. But RRBs and cooperative systems are typified by high NPAs, which can range between 5-15%. Therefore, having these sub-limits for micro and small farmers as well as micro units in the non-agri space would be a challenge for these banks. The conundrum in lending is that, as we move to smaller-size borrowers (beyond the retail), the propensity to be affected by adversities is higher.
At an ideological level, we are actively looking at having small banks and payments banks as well as the Mudra Bank for refinancing SMEs. Soon, these banks will be actively participating in the banking system on both the deposit and lending sides. With this structure being built, it could have ideally been possible to consider lowering the commitments to priority sector lending for commercial banks. The Narasimham Committee report had spoken of lowering the levels of priority sector lending as well as the classification to give banks more flexibility in their operations.
Today, banks already have a CRR and SLR preemption which leaves aside around R75 out of every R100 of deposits. Further, setting aside R30 for priority sector lending, which is granular and also more vulnerable to economic cycles and monsoon, leaves them with just R45 of funds to play around with. By specifying that R6 has to be kept aside for small farmers, R5.625 for micro units and R7.5 for weaker sections, they would have to get into an overdrive to meet the targets that can lead to adverse selection.
Inclusive lending is a very sensitive subject and part of the regulatory framework. We are quite rightly tackling this requirement by creating new institutions through the formal channels so that we are able to make this segment viable. The MFIs in their earlier form had bridged the gap but became an expensive medium that caused other problems for the borrowers. By introducing these sub-limits at a time when banks are already strained by NPAs on the infra and industry side, and a monsoon alert from IMD which does not augur too well, banks would have a tough job on hand in ensuring that these targets are met and the quality of assets retained.
RBI has tried to balance these commitments by expanding the scope to cover even renewable energy and social infrastructure besides MFIs for on-lending purposes. The weaker section now also includes the Jan-Dhan accounts which can claim credit provided certain conditions are met.
The broader question is, how the commercial viability of banks can be retained while also reaching out to the interests of the vulnerable groups? As, logically, banks are commercial entities and should have flexibility, the commitments forced on them should be compensated for, in case of NPAs, by the government.
Analogous to how loan waivers or interest subvention is supposed to be paid for by the government, NPAs resulting from such lending could be partly compensated by the state and central governments. It can go as part of the social spending programmes that are listed in the Budget. This can be a way out where all interests are satiated in a pragmatic manner. Hence, just like how we have the NREGA programme for employment, there can be a “loan compensation programme” for NPAs in this sector. If such a scheme is designed and implemented, banks would also be more willing to venture into this terrain.
The objective to make credit accessible is laudable, and considering that we have witnessed extreme distress to farmers resulting in their inability to service their loans, a solution was needed. Loan waivers is a medium used often to assuage the interests of farmers, but the damage done in the interim in the form of farmer suicides is worrisome. However, the fact that the banking system is going through challenging times is also a consideration when viewing this measure. The question that is often posed is, whether we are taking financial inclusion too far when it comes to lending, especially so since banks today are commercial entities which are answerable not just to shareholders but also subject to global standards of regulation by RBI in terms of quality of assets and capital adequacy?
The factual is that banks often tend to miss their priority sector targets and rarely cross the number of 40%, which means that the counter-factual would also hold that it is not too attractive in terms of a business. If it were so, banks should be lending more to these segments as part of their business models and not seek recourse through participatory certificates or the RIDF route.
This is due to the reason that NPAs tend to be higher—for PSBs these were 5.2% as against 4.5% for non-priority sector loans in 2014. In fact, the non-priority sector segment had a lower ratio in 2013 and conditions have exacerbated due to issues in the infra space, which hopefully will have a solution. In case of priority sector loans, given that these are normally generated by the farm sector where climatic conditions are erratic, the ratio has tended to vary with the state of the monsoon.
Also, given the small size of these loans, the administrative, monitoring and recovery costs are higher. Physical access may not be a major issue for the rural financial ecosystem if we include commercial banks, regional rural banks (RRBs) and cooperative banks. But RRBs and cooperative systems are typified by high NPAs, which can range between 5-15%. Therefore, having these sub-limits for micro and small farmers as well as micro units in the non-agri space would be a challenge for these banks. The conundrum in lending is that, as we move to smaller-size borrowers (beyond the retail), the propensity to be affected by adversities is higher.
At an ideological level, we are actively looking at having small banks and payments banks as well as the Mudra Bank for refinancing SMEs. Soon, these banks will be actively participating in the banking system on both the deposit and lending sides. With this structure being built, it could have ideally been possible to consider lowering the commitments to priority sector lending for commercial banks. The Narasimham Committee report had spoken of lowering the levels of priority sector lending as well as the classification to give banks more flexibility in their operations.
Today, banks already have a CRR and SLR preemption which leaves aside around R75 out of every R100 of deposits. Further, setting aside R30 for priority sector lending, which is granular and also more vulnerable to economic cycles and monsoon, leaves them with just R45 of funds to play around with. By specifying that R6 has to be kept aside for small farmers, R5.625 for micro units and R7.5 for weaker sections, they would have to get into an overdrive to meet the targets that can lead to adverse selection.
Inclusive lending is a very sensitive subject and part of the regulatory framework. We are quite rightly tackling this requirement by creating new institutions through the formal channels so that we are able to make this segment viable. The MFIs in their earlier form had bridged the gap but became an expensive medium that caused other problems for the borrowers. By introducing these sub-limits at a time when banks are already strained by NPAs on the infra and industry side, and a monsoon alert from IMD which does not augur too well, banks would have a tough job on hand in ensuring that these targets are met and the quality of assets retained.
RBI has tried to balance these commitments by expanding the scope to cover even renewable energy and social infrastructure besides MFIs for on-lending purposes. The weaker section now also includes the Jan-Dhan accounts which can claim credit provided certain conditions are met.
The broader question is, how the commercial viability of banks can be retained while also reaching out to the interests of the vulnerable groups? As, logically, banks are commercial entities and should have flexibility, the commitments forced on them should be compensated for, in case of NPAs, by the government.
Analogous to how loan waivers or interest subvention is supposed to be paid for by the government, NPAs resulting from such lending could be partly compensated by the state and central governments. It can go as part of the social spending programmes that are listed in the Budget. This can be a way out where all interests are satiated in a pragmatic manner. Hence, just like how we have the NREGA programme for employment, there can be a “loan compensation programme” for NPAs in this sector. If such a scheme is designed and implemented, banks would also be more willing to venture into this terrain.
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