Goodies for small traders

Collateral-free loans of Rs 50 lakh is not a good idea

Speaking at a traders’ convention in New Delhi, Prime Minister Narendra Modi made a series of promises to traders about changes in government policy if he was re-elected this May. Mr Modi’s Bharatiya Janata Party (BJP) has traditionally been the party of the small business owner, but some of the government’s policies over the past five years have alienated a significant section of its traditional vote bank. Mr Modi clearly intends to win some of them back, as is his prerogative. However, at least one of the promises made by the prime minister deserves a closer look. The promise in its structure is symptomatic of how the Indian state has gotten credit all wrong over the past decades; and in its specifics is not advisable at this fraught moment for the Indian financial sector.

The prime minister said a traders’ credit card scheme similar to the Kisan credit card would be introduced. He also said loans would be made available to traders — loans of a ticket size of as much as Rs 50 lakh, without any collateral whatsoever. Conceptually, the aim of this loan is understandable. Many traders have faced a cash squeeze after the twin blows of demonetisation and the introduction of the goods and services tax, or GST. Credit has become hard to come by. It is thus necessary both from the point of view of this particular sector as well as for the economy generally to ensure that credit flows more freely to the trading sector. However, directed lending of this sort is always a bad idea. The past decades have shown that loan melas, whether for the rural sector or for infrastructure, rarely achieve their ends. In the end, directed lending, especially collateral-free directed lending, ends up stressing those banks that have been forced into making these loans. The entire history of bank nationalisation up to the present day — a nationalisation that was originally justified by the need to force credit into “priority” sectors of the planned economy — shows that when nationalised banks are turned into tools of government policy, they fall into crisis in the medium to long term. 

In fact, the banks are yet to properly emerge from the current bad loans crisis. Infrastructure, construction, power, and commodities lending remain stressed. But the government has added fresh pain points already such as the MUDRA loans, which have seen a leap in delinquency over the past financial year. And now the prime minister is promising to add yet another source of bad loans to the banks’ list of directives. Politicians need to realise that the public sector banking system is not a free source of cash for re-election. Promises of concessional or collateral-free credit will eventually have to be paid for as surely as direct income transfers. But, unlike the latter, loan melas or loan waivers have the additional cost of stressing the entire financial system and raising the chances of a freeze in bank lending that causes a more generalised slowdown or crisis. This promise should have been discussed in greater detail if it is indeed a serious one. As it now stands, it would be a bad idea to implement.