Credit gap: Poor lending haunts smaller borrowers

India’s economy is haunted by the cost imposed by the credit gap and poor lending to smaller and poorer borrowers. The credit gap is perpetuated by gaps in policy and is aggravated by the patriarchy of profitability.
Image used for representational purposes only.
Image used for representational purposes only.Photo | EPS
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This week, the Reserve Bank’s reconstituted Monetary Policy Committee will review the cost of money and the state of the economy.

On the face of it, to borrow a phrase from ornithology, the conditions signal a dovish policy—inflation is down, the US Federal Reserve has cut rates and GDP growth was slower at 6.7 percent as against the RBI’s forecast of 7.1 percent. Ergo, the debate is centred on the cost of money and pace of growth.

The cost of money is critical, but what matters for sustaining growth momentum is wider access to credit. As Adam Smith observed in his seminal book, An Inquiry into the Nature and Causes of the Wealth of Nations, “Money says the proverb makes money. When you have got a little, it is often easy to get more. The great difficulty is to get that little.”

India’s economy is haunted by the cost imposed by the credit gap and poor lending to smaller and poorer borrowers.

The landscape is littered with a litany of lament.

Take the case of micro, small and medium enterprises or MSMEs. India is home to an estimated 60 million MSMEs—over 29.7 million of them are registered on the Udyam portal. MSMEs account for 30 percent of the GDP, 45 percent of the manufacturing output, 48 percent of exports, and they employ around 110 million people. Despite a plethora of schemes—for one, the Emergency Credit Line Guarantee scheme was a big saviour post pandemic—their access to credit remains poor.

CRISIL report  from February 2024 revealed that formal credit penetration in the sector is at a mere 20 percent. The parliamentary standing committee on finance in 2022 found formal credit touched only 39 percent of the MSMEs. How does this translate in credit delivery?

The committee cited the UK Sinha expert group report to point out: “Total addressable demand for credit is estimated at Rs 37 lakh crore, whereas overall supply is Rs 14.5 lakh crore.”

In effect, leaving a credit gap of Rs 20-25 lakh crore. Lack of funding stunts MSMEs and impedes technology upgrade.

The status of credit to agriculture is stranded in complications of legislation, regulation and distribution. Thanks to the expansion of Kisan Credit Cards, there is some improvement. In absolute terms, bank lending for agriculture has gone up from Rs 6.04 lakh crore in 2014-15 to Rs 24.8 lakh crore in 2023-24.

That said, a Nabard study in 2023 revealed that while 58 percent of farmers were aware of credit schemes—KCCs being the most popular—only 28 percent availed of credit.

The hurdles in accessing credit ranged from complex procedure, distance to banks and documentation. So, credit continues to elude the small and marginal farmer. And it gets worse for the tenant farmer who is “hardly included in the institutional credit system”, says the study.

Agriculture accounts for nearly 16 percent of the GDP and 46 percent of the workforce. According to the Agriculture Census of 2015-16, 68 percent of farm landholding in India measured up to one hectare. The National Sample Survey stated in a 2019 report that the average monthly income of farmers was Rs 10,218 and the average household debt Rs 74,121.

While the PM Kisan Samman Nidhi has helped, the distress in the sector is visible in rural consumption data and is reflected in the quest for job quotas and recent election results. The twin objectives of improving the income of farmers and reducing the proportion of workforce on farms call for expansion of credit.

Unlike the past, it’s not the lack of financial inclusion that’s hindering credit delivery. Aadhaar has propelled financial inclusion through the Jan Dhan Yojana. In the decade since the programme was launched by Prime Minister Narendra Modi in August 2014, India has linked 531 million persons to bank accounts, of which two-thirds are in rural and semi-urban areas. The RBI’s FI-Index, that captures the extent of financial inclusion across the country, rose to 64.2 in March 2024 from 60.1 a year ago.

India’s digital public infrastructure affords the opportunity to use technology. The potential is manifest in digital payments—UPI registered 15 billion transactions in September. The Open Credit Enablement Network, a tech framework for lenders and account aggregators, was launched in 2020. Riding the wave is the launch of Unified Lending Interface—call it the UPI of lending—in August this year by RBI Governor Shaktikanta Das. The ULI promises population-scale resolution, and allows leveraging of cash flow or data on transactions to deliver credit. Much would depend on how rapidly the ULI is deployed.

The credit gap is perpetuated by gaps in policy and is aggravated by the patriarchy of profitability. The unwillingness to lend to MSMEs and farmers stems from systemic apathy. Credit assessment is influenced by economics. The viability of farming, for instance, depends on access to inputs and markets, enabling collectives for scale and price realisation.

The farmer—as onion growers in Lasalgaon and rice farmers in Madhya Pradesh and Haryana will testify—is vulnerable to price controls and export bans. The small entrepreneur needs systemic support to upgrade tech and scale, and protection from defaults by the big buyer.

Success calls for structural reforms. India’s small businesses and farmers are the force multipliers of growth. Bridging the credit gap is critical for sustaining growth and prosperity. Delivering fuel to all the cylinders is essential for velocity and momentum.

Shankkar Aiyar

Author of The Gated Republic, Aadhaar: A Biometric History of India’s 12 Digit Revolution, and Accidental India

(shankkar.aiyar@gmail.com)

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