Regulating Rural Moneylenders: Would It Answer the Woes of Farmers?

On 5^th July 1883, Sir William Wedderbum while making a   presentation to the East Indian Association in London observed: “The problem was how to supply him (the farmer) with capital without loan becoming the cause of his ruin.”

A true concern of a civil servant of yore for the good of a common man! That’s indeed what even the modern public finance theory states: government should do no harm. According to Rosen and Weinberg (1997), even in today’s world of privatization, government remains an important, if not dominant, player in the world’s economies. So long as the market economy is working satisfactorily in meeting the demands of consumers at the lowest cost, there is of course no need for the government to intervene with its investments. But when consumer demands go unmet or costs are prohibitively high, there is a just need for a government to intervene.

It is commonsensical that markets work well so long as the ‘self-interested consumers’ and ‘supplier-companies’ absorb all the benefits and costs of their economic transactions—i.e., when an individual farmer’s demand curve measures all the benefits of the cost of capital being borrowed and a lender’s cost curve captures all the costs associated with its supply, the market functions without any frictions.

However, when some benefits and costs are ignored or over-stated by market participants, markets are prone to fail in providing an efficient allocation. That is where an extra-market institution needs to be created as a means to account for those ‘externalities’. And that is where government has a potential role to play.   

     

That’s what indeed echoes in the Prime Minister’s address at the 2^nd Agriculture Summit on October 18, 2006: “When we review our agricultural situation, it is clear that there are four deficits we need to bridge. These four deficits are (i) the public investment and credit deficit; (ii) the infrastructure deficit; (iii) the market economy deficit; and (iv) the knowledge deficit. Taken together they are responsible for the development deficit in the agrarian and rural economy. However, we need more thinking on the credit front.... What do farmers need—a lower rate of interest or reliable access to credit at reasonable rates? Is our existing institutional framework adequate for meeting the requirements of our farmers who are a diverse lot? Do we need to create new institutional structures. Or do we need to bring in moneylenders under some form of regulation?”

These are the questions that inevitably call for government’s intervention, for, a nation’s economic prosperity squarely rests on its enforcing the rules for private market transactions. The recent move of  the RBI to get rural moneylenders registered with local authorities and make local commercial banks finance them for onward lending to farmers is obviously, an outcome of these questions and the government’s answers thereof. It is therefore quite laudable—laudable not because it is going to solve the problems associated with rural lending, but because it indicates that the authorities are alive to the problem.

To understand its fair utility to stave off the capital-starved farmers’ woes by supplying timely credit at an affordable price, let us take a critical look at the mechanics of the proposal. A technical committee appointed by the Reserve Bank of India—taking note of the alarming rise in  the share of moneylenders in the total dues of rural households, that too, despite the spread of modern banking in the country-side, from 17.5% in 1991 to 29.6% in 2002 as revealed by an all-India debt and investment survey by the NSS—recommended a model legislation on Moneylenders and Accredited Loan Providers for adoption to regularize moneylending business by compulsory registration of lenders by state governments and fixing maximum interest rates on their loans to farmers. It also proposes extension of institutional credit to such accredited loan providers—moneylenders, input dealers, agriculture traders, commission agents, agriculture output processors, vehicle dealers and any other person considered to be a rural lender, and signed a formal memorandum of understanding with the institutional creditors—for on-lending to farmers at the prescribed interest rates by the state level bankers committee.

   

Now, the question is: Is this mechanism good enough to deliver timely credit, that too, at the prescribed rate of interest? Or, is it all set to become yet another minefield of corruption? One may here tend to take solace from the provisions under recommendations for alternate dispute mechanism such as Lok Adalat and Nyaya Panchayat  for speedy and economical dispensation of justice. But going by the historical experiences and the ethical fabric of the moneylenders, the answer to these naturally sprouting questions is obvious.    

Against these embedded doubts about the schemes, the accumulated empirical literature clearly suggests that there are three essentials that government must ensure for sustained economic growth: one, an educated and healthy labor force; two, well-maintained public and private capital stocks; and three, the protection of private property from external attack and domestic corruption (Barro, 1996).   This makes one wonder: Would it not make great sense for the government, taking advantage of the technological advances, to explore providing on-line credit through banking network?

(October, 2007)