ECONOMIC NOTES

EPW Research Foundation

Priority Sector Credit

Disappointments After the Nair Committee Report
Bipin Deokar, S L Shetty

The revised RBI guidelines on priority sector lending discriminate against small and marginal farmers and favour corporates involved in agriculture. The guidelines seem to have been drawn up under pressure from banks.

The authors wish to acknowledge with gratitude the comments of K Kanagasabapathy on an earlier draft of this note. Bipin Deokar and S L Shetty are with the EPW Research Foundation.
Economic & Political Weekly EPW

s there are many distortions in implementation of the priority sector guidelines, there have been demands from several quarters on the need to take a fresh look at the guidelines. In particular, it was perceived that banks are increasingly using intermediaries in directing credit to the priority sector, and there is growing incidence of misclassication of non-priority sector accounts as priority sector (Subbarao 2012: 1,407). It was in that spirit of dealing with a possible signicant diversion of funds and such other incidences of arbitrage that the Malegam Committee on Micronance (January 2011) had recommended that the existing guidelines on bank lending to the priority sectors be revisited. The Malegam Committee had specically recommended that those micronance institutions (MFIs) which did not comply with the regulations on small income criteria, interest and margin ceilings, etc, should be denied the priority sector lending status. Against this background, it was expected that the Nair Committee would streamline the coverage of items under the priority sector category on the consideration that priority sector can deliver on its promise only if the eligible sectors are restricted to a select few which are important from the perspective of improving livelihoods (Subbarao op cit: 1,408). A detailed review of the Nair Committee recommendations is beyond the scope of this note. However, we wish to make two observations on the recommendations and their aftermath, which are germane to the prospects for better agricultural credit delivery and therefore deserve to be highlighted. Expansion of Eligible Categories The rst one concerns the unduly large expansion of the list of eligible categories
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under the priority sector loans scheme. It was hoped that the Nair Committee would recommend pruning it on the obvious ground that the more sectors we include in priority sector lendings (PSL), the more they will compete for the same xed pool of resources and crowd each other out (Subbarao 2012: 1,408). No attempt has been made either in the recommendations of the Nair Committee Report or in the Reserve Bank of Indias (RBI) revised priority sector guidelines to correct these distortions. On the contrary, the Nair Committee has recommended that the distinction between direct and indirect agricultural lending be done away with, thus allowing farmers engaged in production activity to compete with the traders engaged in storage and distribution of inputs in the agriculture value chain on the convoluted plea that
agriculture is an important sector considering the livelihood it generates for almost two-thirds of Indias population. It is also critical for ensuring food security and poverty alleviation and this sector needs to be seen as a single set of activities encompassing production, storage and distribution. As there is a seamless interconnectedness of the entire agriculture value chain, its impact on output, income and employment in rural economy is highly positive (Nair Committee Report 2012, pp vii-viii).

Fortunately, the RBI did not accept the proposal to dispense with the direct and indirect distinction on the ground that the focus of the guidelines is on direct agricultural lending to individuals, Self Help Groups (SHGs) and Joint Liability Groups (JLGs) (Chakrabarty 2012: 1,822). However, the RBIs revised guidelines on priority sector lendings go entirely counter to the very principle of eligible sectors being restricted to a select few so as to derive the maximum benet from the perspectives of improving livelihoods. The Nair Committee sought to considerably expand the scope of certain kinds of indirect advances on the ground of accounting for ination. Thus, the maximum loan against pledge/hypothecation of agricultural produce up to 12 months was raised from Rs 10 lakh to
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EPW Research Foundation

farmers and other individuals will be taken care of by shifting the direct part of agricultural loans to corporates, partnership rms and other institutions to indirect agriculture (Chakrabarty 2012: 1822).

Rs 20 lakh and, similarly, for bank credit for purchase and distribution of inputs for allied activities, and for dealers in drip/sprinkler irrigation system and in agricultural machinery, the limit was raised from Rs 30-40 lakh to Rs 70 lakh. In respect of both the above cases, the RBI has further expanded their scope
No Activity Description

Contrary to this promise made based on the guidelines issued on 20 July 2012, very soon thereafter on 17 October 2012,
Existing Limits Revised Limits RBI Guidelines

Table: Revision of Limits for Agriculture Activities under Priority Sector

1 Maximum loan against pledge/hypothecation of Rs 10 lakh agricultural produce up to 12 months (direct loans to farmers and indirect loans to corporates, etc) Credit for purchase and distribution of inputs for the allied Rs 40 lakh/ activities, dealers in drip/sprinkler irrigation system/ Rs 30 lakh agricultural machinery (indirect loans under RBI guidelines) Rs 20 lakh Rs 25 lakh

Rs 70 lakh

Rs 1 crore

Source: (i) M V Nair Committee on Report on Priority Sector Lendings, February 2012 . (ii) RBI Guidelines on Priory Sector Lending Targets and Classifications dated 20 July 2012.

and coverage. As shown in the accompanying table, the RBI guidelines have nally raised the rst limit to Rs 25 lakh from Rs 20 lakh proposed by the Nair Committee and second limit to Rs 1 crore from Rs 70 lakh. Sub-Targets for Small and Marginal Farmers The RBIs new guidelines have also inicted damage on its own principles underlying the new guidelines. The RBI has taken pleasure in highlighting the four basic pillars/philosophy upon which these guidelines are based; two important ones are:
Priority sector refers to those sectors of the economy which, though viable and creditworthy, may not get timely and adequate credit in the absence of this special dispensation. Typically, these are small value loans to farmers for agriculture and allied activities, micro and small enterprises, poor people for housing, students for education and other low income groups and weaker sections. Those sectors which are able to get timely and adequate credit would not qualify for priority sector status. Banks should lend directly to beneciaries instead of routing these loans through intermediaries. This will ensure better management of risks and also reduction in transaction costs for such loans (Chakrabarty 2012: 1,821).

the RBI guidelines were revised based on feedbacks received from banks, which totally negated the earlier stated objectives of minimising the competition for the same xed pool of resources and excluding the corporate borrowings for direct agriculture nance so that the interests of the small and marginal farmers are protected. The 17 October 2012 guidelines have negated both these objectives. The revised guidelines have not only reintroduced the direct agricultural advance provision in respect of corporates, partnership rms, etc, but also doubled the limit from Rs 1 crore to Rs 2 crore. What is more if the aggregate loan limit per borrower given in favour of corporates, etc, exceeds Rs 2 crore, the balance

is allowed to be treated as indirect nance for agriculture. There cannot be any objection to the banks lending in favour of corporates and such other entities engaged in agricultural activities. The principal point that is sought to be made here is that such lending should be based on the commercial judgment of banks and should not be dependent on the directed credit arrangement. It is not as though the borrowing parties were hoping to get easier credit at a lower cost. As the RBI Governor (August 2012) has clearly termed it, it is a possible myth: The lower cost issue is a clear misunderstanding since there is no regulatory interest rate ceiling on priority sector lending. Likewise, the expectation of easier access too is misguided. As cited above, the more sectors we include in PSL, the more they will compete for the same xed pool of resources and crowd each other out (Subbarao 2012a). It is thus very clear that it is the banking fraternity which has put pressure on the RBI to revise its guidelines and to allow corporates to compete with small and marginal farmers for the same xed pool of resources. By granting loans to a handful of corporates, the banks would nd it easier to show improved performance under direct nance target for agriculture than take the trouble of nancing a

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In the same vein, the RBI has rejected the Nair Committee recommendations for prescribing additional sub-targets for small and marginal farmers (more on this later). It has justied it thus:
[T]hough we have not prescribed fresh targets, the interests of small and marginal

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ECONOMIC NOTES
whichever is higher to be achieved in stages by 2015-16. Banks are also encouraged to ensure that the number of outstanding ben eficiary accounts register a minimum annual growth rate of 15%. With this dispensation, significantly large number of eligible and willing small and marginal farmer house holds would have access to credit from for mal channels (p viii).

myriad number of small and marginal farmers which is admittedly the social philos ophy behind the priority s ector guidelines. Unequal Competition Such vastly unequal competition bet ween corporates and small and marginal farmers for scarce bank resources could have been obviated to an extent at least, if a separate sub-target of priority sector target was kept for the neglected sec tions of society like small and marginal farmers. It was, therefore, noteworthy that the Nair Committee under discus sion thought it fit to prescribe such a sub-target for, amongst other poorer segments, small and marginal farmers. The committee explained its rationale in these words:
Findings of the Committee indicate that small and marginal farmers who constitute more than 80% of total farmer households in the country face exclusion from the for mal financial channels. Therefore, a sub-tar get for small and marginal farmers within agriculture and allied activities is recom mended, equivalent to 9% of ANBC or CEOBE,

eventually the interests of the small and marginal farmers. Also, so long as banking institutions do not imbibe rather genuinely the imperatives of broader social goals in bank lendings, there is no hope for the deprived sec tions of society.
References
Chakrabarty K C (2012): Revised Guidelines on Priority Sector Lending: Rationale and Logic, special address by K C Chakrabarty, Deputy Governor, Reserve Bank of India at the FIBAC 2012 organised by FICCI and the Indian Banks Association at Mumbai on 4 September 2012, RBI Monthly Bulletin, October. Nair Committee Report (2012): Report of the Committee to Re-Examine the Existing Classi fication and Suggest Revised Guidelines With Regard to Priority Sector Lending Classification and Related Issues, Chairman: M V Nair, February. Subbarao, Duvvuri (2012): Touching Hearts and Spreading Smiles, Oration by Duvvuri Sub baro, Governor, Reserve Bank of India, as part of the Indian Overseas Banks Platinum Jubilee Oration Series at Chennai on 4 July, Monthly Bulletin, August. (2012a): Agricultural Credit Accomplish ments and Challenges, speech delivered by Duvvuri Subbaro, Governor, Reserve Bank of India at the 30 years anniversary celebration of NABARD at Mumbai on 12 July, Monthly Bulletin, August.

They have similarly covered micro and small enterprises, and other eco nomically weaker sections. But the RBI has not accepted these recommendations and explained its position in the follow ing words:
One important area where we have diverged from the views of the Nair Committee is that we have not imposed any new targets under the priority sector framework. The Nair Committee had recommended certain additional sub-targets for credit to micro enterprises, small and marginal farmers and realignment of certain existing targets. We have consciously decided against this as we believe that fresh targets would distort the allocation of credit (Chakrabarty 2012: 1,822).

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