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Wake up, smell the leakage

Substantial number of interest subvention scheme loans are diverted to non-agricultural uses. Government must switch to an income-support subsidy regime

Written by Ashok Gulati , Prerna Terway |
Updated: April 11, 2016 12:12:55 am
farming sector, agriculture, agriculture sector, union budget 2016, 2106 union budget, agricultural credit, interest subvention scheme, short-term agri credit, agriculture budget allocation, rbi, Nabard, agricultural schemes, agricultural news, india news, latest news The RBI Committee on Medium-Term Path on Financial Inclusion (2015) has already recommended phasing out the interest subvention scheme and moving towards universal crop insurance.

The Union budget for 2016-17 has provisioned Rs 15,000 crore on account of interest subvention for short-term agricultural credit, up by Rs 2,000 crore over the revised estimate for FY16. The mere shifting of this line item from the department of financial services to the department of agriculture (DoA) gave an illusion of the funding for the DoA drastically increasing by 127 per cent. In reality, it was only nominally better.

But here we are more concerned about the swelling of unpaid bills of the interest subvention scheme. The last few budgets have consistently under-provisioned for the interest subvention subsidy and, as a result, the cumulative unpaid bills on this account to the banking system had already touched Rs 35,000 crore in FY15. If not nipped now, they may cross Rs 50,000 crore by FY17, without much benefit to the majority of farmers. Why do we say so?

The interest subvention scheme was introduced in 2006-07 to help farmers with cheaper credit for crop loans. It provided interest subvention at 2 per cent to banks for making crop loans available to farmers at 7 per cent. Further, an additional subvention of 1 per cent was introduced for farmers who repaid their loans on or before the due date; this was increased to 3 per cent in 2011-12. Thus, farmers who pay their dues on time receive a subvention of 5 per cent and are charged an effective interest rate of 4 per cent. Some states, like Madhya Pradesh, have even given loans at zero interest to farmers. The banks are required to first credit the subvention amount to the farmer’s account and then seek reimbursement from Nabard/ the RBI. Therefore, any delay in settlement of claims of the banks and/ or insufficient budgetary allocations towards this scheme could have severe implications for the financial health of the banking sector.

With short-term agri credit growing at an average rate of 18 per cent per annum for the last five years, the financial liability under this scheme has been increasing sharply. However, in recent budgets, allocations have been far below the actual requirements, resulting in a mounting backlog of unsettled claims. This cumulative backlog stood at almost Rs 35,000 crore by FY15. The budgeted amount of Rs 15,000 crore in FY17, therefore, is obviously way too little to meet the current year’s needs and settle the previous backlog.

All this perhaps could have been justified if surging agri credit was leading to high growth in agriculture and rising profitability. But the reality is exactly the opposite. In the last two years, average agri GDP growth has collapsed to less than 0.5 per cent and profitability in farming has crashed, leading to acute farm distress.

The puzzle of rising farm credit at cheaper rates and falling farm incomes can be understood if one digs a little deeper to see how this scheme is being implemented. It smacks of substantial diversion of funds away from agriculture. A farmer who receives loans at a concessional rate of 4 per cent has the incentive to borrow as much as possible and then divert at least part of it to fixed deposits earning around 7-8 per cent interest or even become a money lender and extend loans at 15-20 per cent interest to those who don’t have access to formal institutional sources of finance. It is curious that the short-term credit from institutional sources exceeded even the total value of inputs used in agriculture in 2014 by about 10 per cent, while the data from the All India Debt and Investment Survey revealed that 44 per cent of loans taken by farmers were from non-institutional sources in 2013. This clearly indicates that a substantial part (at least 30 to 40 per cent) of crop loans under the interest subvention scheme is getting diverted to non-agricultural uses. Further supporting evidence of this comes from the sudden spike in agri loans — often crossing 60 per cent of the annual disbursement — that one witnesses in the last quarter of the fiscal year, though there is not much agri activity during the January-March quarter.

It is time to wake up, plug these “leakages” and rationalise the interest subvention subsidy. The RBI Committee on Medium-Term Path on Financial Inclusion (2015) has already recommended phasing out the interest subvention scheme and moving towards universal crop insurance.

It is better to use an income policy and directly transfer money to farmers’ accounts linked to Aadhaar for all input subsidies like fertilisers, seeds, farm machinery and agri credit, and give them freedom to choose the right mix of inputs at market prices. We need to change the policy instrument — from price policy (subsidising inputs) to income policy (direct transfer to farmers’ accounts). This will help reduce efficiency losses in the system.

China has already moved in this direction. It is now time for India to make this switch. The farm sector is crying out for bold reforms. Start by directly transferring input subsidies to farmers’ accounts and let the markets for inputs be freed. This will plug various leakages, which hover anywhere from 30 to 40 per cent, promote efficiency, and will be more equitous as a subsidy income package can be designed on a per-hectare basis, with smaller landholders getting a higher per-hectare rate. This will be a win-win situation. Politically, too, it will pay off handsomely as money will come directly to the accounts of farmers and the PM’s seminal work in the Jan Dhan Yojana will bear fruit. Put money into farmers’ accounts and let the markets do the rest.


Gulati is Infosys chair professor for agriculture and Terway a research assistant at Icrier, Delhi

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