Loan waiver schemes ‘engender moral hazard’, says Urjit Patel

Farmer bodies tear into RBI chief’s remarks. Meanwhile, RBI retains repo rate at 6.25% and springs a surprise by increasing reverse repo to 6%

Photo by Arijit Sen/Hindustan Times via Getty Images
Photo by Arijit Sen/Hindustan Times via Getty Images
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NH Economic Bureau

Days after the BJP-led Uttar Pradesh government announced a farm loan waiver of ₹36,359 crore, RBI Governor Urjit Patel on Thursday cautioned that loan waiver schemes “engender a moral hazard”, undermining honest credit culture and impairing incentives for borrowers to repay bank loans.


“I think it (loan waiver schemes) undermines an honest credit culture. It impacts credit discipline. It (impacts) incentives for future borrowers to repay. In other words, waivers engender moral hazard,” Patel said after announcing the first bi-monthly monetary policy for 2017-18.


The pressure on states to waive off farm loans have been increasing. While Maharashtra Chief Minister Devendra Fadnavis has said his government would study the Uttar Pradesh model of farm loan waiver, the Punjab Government is said to be finalising details to implement its election promise. The Madras High Court also had on Tuesday asked the Tamil Nadu government to waive farm loans obtained by all farmers, instead of limiting the benefit only to those owning less than five acres of land.


Patel, however, said that debt waivers also entail transfers from taxpayers to borrowers. “If on account of this, overall government borrowing goes up, yields on government bonds also get impacted. Thereafter, it can also lead to crowding of the private borrowers as higher government borrowing can lead to increasing cost of borrowing for others,” he said.


Farmer bodies: Farmer bodies though tore into the RBI chief’s remarks on loan waiver. Pushpendra Choudhary, President Kisan Shakti Sangh, pointed out that the total amount of NPAs in the banking sector due to the big industries defaulting was to the tune of ₹9 lakh crore.


“When a big industrialist defaults on his loan, the government goes all the way either to waive that loan or tries to restructure the loan. The Modi government is also talking of setting up of a ‘bad bank’ to address the non-performing assets (NPAs) in the banking sector,” he said.


Choudhary felt that Patel’s remarks smack of double standards. He pointed out that when the Supreme Court in October 2016 asked the RBI and the Centre to name those who owed money over ₹500 crore, they wanted to keep it a secret. “However, when a poor farmer defaults, the banks ‘names and shames’ him. Why these double standards?” he asks.


“If you give us a profitable price for our crops, we will not seek a loan waiver,” said Iyyakannu, who heads Desiya Thenidhiya Nathigal Inaippu Vivasayigal Sangam, a farmers’ organisation in Tamil Nadu. He said that the farmers were demanding a loan waiver as they had no choice and were suffering: “We have nothing to eat and the RBI governor is talking about moral hazard.”


Repo rate stays at 6.25%; reverse repo up by 25 bps

Given the upside risks to inflation and excess liquidity in the system after demonetisation, the RBI on Thursday kept the repo rate unchanged at 6.25% -- the third policy review in a row citing upside risk to inflation. However, it increased the reverse repo rate at which it pays to lenders by 25 basis points (or 0.25%) to 6%. The repo rate is the rate it lends to banks and reverse repo is what it pays the banks for parking funds with it.


Further, in the first bi-monthly monetary policy for 2017-18, the RBI decreased the Marginal Standing Facility by 0.25% to 6.5%. MSF is RBI's lending rate for banks against government securities.


“The RBI is concentrating on containing inflation expectation rather on focusing on economic growth now,” said NR Bhanumurthy, senior economist at the National Institute of Public Finance and Policy (NIPFP).


The Monetary Policy Committee (MPC) decided to keep the policy rate unchanged in this review while persevering with a neutral stance, the RBI said, adding, “The future course of monetary policy will largely depend on incoming data on how macroeconomic conditions are evolving.”


Growth to go up to 7.4%; rural demand stays depressed

“GVA (gross value add) growth is projected to strengthen to 7.4% in 2017-18 from 6.7% in 2016-17, with risks evenly balanced,” said the RBI.


“Activity in the services sector appears to be improving as the constraining effects of demonetisation wear off,” said the RBI, indicating that the ill-effects of demonetisation on the economy haven’t still gone away. “On the one hand, rural demand remains depressed as reflected in lower sales of two- and three-wheelers and fertiliser,” the apex bank said.


It pointed out to certain positive domestic factors such as record production of foodgrains and pulses and recovery in industrial output on the back of turnaround in the manufacturing sector.


Inflation risks: El Nino, 7th CPC, GST

“For 2017-18, inflation is projected to average 4.5% in the first half and 5% in the second half,” the RBI said. The main risks projected by the RBI for inflation include:

  • The uncertainty surrounding the outcome of the south west monsoon in view of the rising probability of an El Niño event around July/ August, and its implications for food inflation.
  • Managing the implementation of the allowances recommended by the Seventh Central Pay Commission.
  • The one-off effects in the implementation of the Goods and Services Tax (GST).
  • The general government deficit, which is high by international comparison, poses yet another risk for the path of inflation, which is likely to be exacerbated by farm loan waivers.
  • Recent global developments entail a reflation risk which may lift commodity prices further and pass through into domestic inflation.
  • Geopolitical risks may induce global financial market volatility with attendant spillovers.


The next meeting of the MPC is scheduled on June 5 and 6, 2017.


With PTI inputs

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