There are distinct parallels between the foray of Indian government into rural banking and the role of Fannie Mae and Freddie Mac in the U.S., observe Viral V. Acharya, Matthew Richardson, Stijn Van Nieuwerburgh, and Lawrence J. White, in ‘ Guaranteed to Fail ’ (Harper).
The first parallel they see is that affordable home ownership goals of the US relate to ‘priority sector lending norms’ in India, focused on agriculture and small-scale industries, but also including housing. Secondly, the GSE (government-sponsored enterprises) in the U.S. correspond to the large presence of state-owned banks in India. “Third, the forbearance that was exhibited towards the GSEs – in good times through generous capital requirements and in bad times through government conservatism – mirrors closely the reluctance of the Indian government to shut down any state-owned bank.”
The authors argue that the quality of lending is poor since banks are effectively forced to lend on terms that they would not have chosen to, had they been entirely private and free of state-enforced lending norms. When the loans become bad, ‘the strong clutch of the government becomes a crutch, readily extending support where the invisible hand of the market would have resulted in shutting down of banks.’
Acharya et al. note that since the state-owned banks never fail, they do not care about the quality of their loans, and since they do not exercise due diligence with respect to borrowers, the farmers do not invest in highly productive and innovative agricultural methods. “Thus, neither the banks nor the farmers are subject to the capitalist creative destruction that would seem essential for success in a country where the rural, farming-focused, sector is so large, yet low on productivity.”
Educative perspective.
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