Externalities of loan waivers spill beyond farming sector, opines RBI Governor

Amid ongoing debates regarding the pros and cons of loan waivers for farmers and the subsequent impact it would have on the economy, Reserve Bank of India (RBI) Governor Urjit Patel opined that there are externalities that spill over beyond the farming sector.

He added that financial inclusion coupled with the Centre's initiatives such as eNAM, Pradhan Mantri Fasal Bima Yojana, Pradhan Mantri Krishi Sinchai Yojana and Paramparagat Krishi Vikas Yojana are important initiatives in minimizing the spillover.

While addressing a seminar on Agricultural Debt Waiver - Efficacy and Limitations earlier in the day, Patel said, "While in no way detracting from the acute distress that farmers face with every disruption in crop cycles, it is important to recognise that there are externalities that spill over beyond the farm sector. Eventually, other economic agents and other parts of the economy get affected. To defray this, Government initiatives and the financial inclusion drive hold the potential of achieving the mission of doubling farmers' income over time."

Discussing the impacts of a loan waiver, Patel stated that the strongest impact is on the balance sheet of lending institutions.

"Further, loan waivers impact the state of public finances in the form of higher than budgeted revenue expenditure, which has to be financed by additional market borrowings, thus leading to a deliberate surge in interest rates for the entire economy. A collateral damage is that private borrowers are crowded out of the finite pool of investible resources as the cost of borrowing rises," Patel said.

While the accommodation of loan waivers for farmers in the Union Budget has been suggested, Patel claimed that it would force cutbacks in other heads of expenditure, particularly in capital expenditure.

He further added that a consequent deterioration in the quality of expenditure will further lead to adverse implications for productivity as asset forming investment, including for the sector itself.

"If capital/infrastructural constraints are binding, a reduction in capital expenditure for the sector that would have benefitted from this expenditure could even be inflationary as costs - including time value/opportunity cost of delays and material damages - go up as a result of capacity constraints becoming even more acute and attendant "congestion charges".

"If, on the other hand, budgetary provisions are exceeded, higher spending and widening of the fiscal deficit have, as experience has shown, inflationary consequences, and possible spillovers that could undermine external viability (the twin deficit argument)," said Patel.

Furthermore, Patel while highlighting past research said loan waivers would be detrimental to welfare, since ultimately, loan waivers involve a transfer of resources from tax payers to borrowers.