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How waived loans impact states?

Topics Covered:

  1. Indian Economy and issues relating to planning, mobilization of resources, growth, development and employment.

How waived loans impact states?

 

What to study?

For Prelims: Which states have announced loan waivers in Recent past?

For Mains: Need for, challenges and the best way out.

 

Context: The report of an Internal Working Group (IWG), set up by RBI in February, has been released.

The group was set up to look at, among other things, the impact of farm loan waivers on state finances

 

Background:

Since 2014-15, many state governments have announced farm loan waivers for a variety of reasons including relieving distressed farmers struggling with lower incomes in the wake of repeated droughts and demonetisation, and the timing of elections.

Several observers of the economy including the RBI warned against the use of farm loan waivers.

 

Key findings:

  1. Farm loan waivers have dented state finances.
  2. In the past five years, just a handful of states have already waived three-times the amount waived by the central government in 2008-09.
  3. The actual waivers peaked in 2017-18 — in the wake of demonetisation and its adverse impact on farm incomes — and amounted to almost 12 per cent of the states’ fiscal deficit.
  4. A farm loan waiver by the government implies that the government settles the private debt that a farmer owes to a bank. But doing so eats into the government’s resources.
  5. This leads to one of following two things: either the concerned government’s fiscal deficit (or, in other words, total borrowing from the market) goes up or it has to cut down its expenditure.
  6. A higher fiscal deficit, even if it is at the state level, implies that the amount of money available for lending to private businesses — both big and small — will be lower.
  7. It also means the cost at which this money would be lent (or the interest rate) would be higher. If fresh credit is costly, there will be fewer new companies, and less job creation.

 

Suggestions made:

  1. Governments — both central and state — should avoid resorting to farm loan waivers.
  2. Governments should undertake a holistic review of the agricultural policies and their implementation.
  3. Evaluate the effectiveness of current subsidy policies with regard to agri inputs and credit in a manner which will improve the overall viability of agriculture in a sustainable manner.

 

Conclusion:

These findings imply that farm loan waivers, as such, are not considered prudent because they hurt overall economic growth apart from ruining the credit culture in the economy since they incentivise defaulters and penalise those who pay back their loans.

Besides, state-level finances are just as important as the central government finances for India’s macroeconomic stability and future economic growth.

 

Sources: the Hindu.