What is the issue?
The BJP had promised that, if it came to power in Uttar Pradesh, it would waive loans taken by small and marginal farmers.
Populist measures:
- Other states have also got into the act and competitive populism reigns.
- The Congress has demanded a nationwide loan waiver.
- Though his state’s budget did not make any provisions for a farm loan waiver, the chief minister of Maharashtra, Devendra Fadnavis, did lead a delegation to New Delhi to demand similar measures for farmers in his state.
- Other states like Punjab are also desirous of seeking the Centre’s help.
What are the merits of this course of action?
- The move will stress a banking system that requires no further shocks after it has been rendered fragile by a build-up of non-performing assets.
- A further escalation in such unpaid loans following the declaration of a loan waiver — and the behavioural changes in its wake — might be one step too far for the most troubled banks.
- In case of a loan waiver there is always a fall in credit discipline because the people who get the waiver have expectations of future waivers as well.
- The moral hazard associated with frequent waivers is deeply problematic; it incentivises the worst kind of borrower behaviour.
- Each successive loan waiver increases the number of irresponsible borrowers. Not to mention the cost of such waivers.
- For instance, according to an SBI estimate, at Rs 27,420 crore, the proposed farm loan waiver in UP will eat up 8 per cent of the total revenue and upset the state’s fiscal math for the coming financial year.
What the experience says?
- There is extensive experience of such moral hazard situations, and it is clear that while the relief is modest and temporary, the long-term ill-effects are many, severe and far more lasting.
- The 2008 loan waiver undertaken by the Congress-led United Progressive Alliance government cost over Rs 70 lakh crore and helped drive up the fiscal deficit by a record amount that year.
- The trouble is that the same waiver was seen by many as the key reason for the UPA’s returning to power in the 2009 general elections.
- But apart from naked political ambition driven by populism, there is little economic reasoning backing the introduction of loan waivers into the policy mix again.
- This is not to say there cannot be specific cases, such as the occurrence of a natural calamity, that may merit some relief.
- However, blanket loan waivers are a poor policy choice and should be avoided.
Source: Business Standard
