Banking Central | Loan waiver neither good for borrowers, nor for banks, but a big bait in polls

Farm loan waivers are bad news for farmers at the end of the day.

Farm loan waivers are back in news! No wonder, it's the season of polls.

Soon after Telangana Chief Minister Revanth Reddy on April 23 vowed to waive off loans up to Rs 2 lakh by August 15, Andhra Pradesh Congress chief YS Sharmila echoed the promise to her vote bank. The commitments made by the leaders of the two states only reiterate that loan waiver announcements are nothing new in Indian politics. It's a proven tool to mobilise impoverished voters to achieve political gains.

Such moves fetch brownie points in politics, but they dent economics, for sure. Loan waiver spawns dreams for ambitious leaders, but they are no less than a nightmare for banks.

Such loan waiver promises severely impact the credit culture of a large geography, encouraging even the honest, regularly paying borrowers hope for a waiver of their liability by the government. Besides mounting liabilities on the government's books, there is an inevitable impact on the credit culture both for the borrower as well as for the bank.

On the farmer's side, the waiver comes as an immediate breather, but does it help them in the long run? Not really. In a recent interview to Financial Express, NABARD Deputy Managing Director Goverdhan S Rawat warned about the impact of loan waivers - the ultimate burden- on farmers. Citing a study on ‘Farm Loan Waivers in India: Assessing Motives, Challenges and Impact on Farmers in Selected States’ conducted by Bharat Krishak Samaj in 2021, he pointed out the indirect effects of farm loan waiver on agricultural credit target and lower lending in the subsequent years.

Over the years, and more specifically since the Rs 70,000-crore mega loan waiver by the erstwhile UPA government in 2008, politicians have increasingly used it as an easy poll plank to lure voters. This has been used time and again in Maharashtra, Uttar Pradesh, Punjab and Karnataka. In the last decade, loan waivers of Rs 4.7 lakh crore were announced by different governments, according to an SBI research report. The actual amount will be even bigger if one includes the recent waiver announcements such as the one announced by Tamil Nadu.

A loan waiver simply means the government asking the banks to waive or write off the loans of a large number of borrowers in one go. The government then promises to compensate the lenders from its own coffers for the amount that gets waived off. Parties in fray for power promise loan waivers to garner votes in a trade-off with liability. Who would not want such freebies? Once voted to power, the parties use taxpayers' money to repay the banks, which eventually puts the fiscal position of the state under strain.

What is the damage caused by loan waivers? They immediately take a toll on the credit discipline of a large section of borrowers. Once the waiver is announced, even the honest borrowers stop repayments to banks, causing a spike in overall bad loans.

The success of loan waivers in mobilising support have gone beyond the political landscape with some private lenders often coming up with such campaigns to woo depositors. In December, 2023, the RBI cautioned against such unauthorised campaigns, urging public to not fall prey to such false and misleading propaganda and report such incidents to law enforcement agencies. The RBI caution came after the central bank noticed certain misleading advertisements enticing borrowers by offering loan waivers.

The nation is polling in its fourth phase while this column is being written. Loan waivers have begun sweeping through large swathes of heartland India. It's an obvious concern why farmers, largely in heartland India, are still killing themselves despite so many waivers every year. Empirical evidence shows that farm loan waivers have largely failed to cause any meaningful improvement in the lives of farmers on the field.

This is more because the benefit of the farm loan waivers do not often reach the bottom of the pyramid. The small, landless farmer is most often out of the formal banking ambit and, resorts to unorganised moneylenders for credit. Several studies also point to the fact that the rich farmers with large landholdings grab the benefits of loan waivers, while those with tiny landholdings and no political clout get no real benefit. This is why the schemes have failed to contain the menace of farmer suicides.

Banks too hesitate to lend in areas where loan waivers were announced because credit culture takes a big hit there. Moreover, since the lenders do not get their money from the governments on time, they drag their feet on further lending to farmers. Even if the banks get the money from the governments, who bears the ultimate burden? Of course, the common taxpayer. The cost of every farm loan waiver is borne by the taxpayer.

The farm loan waivers often throw up another challenge. Other categories of borrowers too begin to lobby with the governments, seeking similar waivers, further deepening the mess. This further vitiates the credit discipline.

Banking Central is a weekly column that keeps a close watch and connects the dots about the sector's most important events for readers.