Suppose you visit your bank to encash the fixed deposit of Rs 50,000 made three years ago, and you are politely told that you would get Rs 30,149 only. ?Well?, the nice manager tells you, ?we were lending money so that development takes place, and well, some loans went bad ? we did not get interest, nor principal back. But we have been paying all the interest due to you for the last three years, which we should not have had, since we did not get full interest from those we had lent our money to. Therefore, we are adjusting both the loss of interest and of principal against the maturity value of your term deposit. You are a good patriot, so take it in that spirit?.
I doubt you would jump with joy, and become D?Artagnan to the bucolic company of dysfunctional government, stupid lending practice and bad ideas. You would be furious, and rightly so ? for you would have been better off had you kept a hoard of currency under your bed, or bought gold like your forefathers did. Banks are in the business of safeguarding your money, not losing it. That is why banks are said to have a fiduciary responsibility. And the Reserve Bank of India designs lending practices and safeguards; it also checks to ensure that banks follow these prudential principles. For, prudence is the guiding principle for any deposit taking institution, especially if it calls itself a bank.
?Pretty obvious?, you?d say. ?that?s what I had always thought. Why the scare story?? Well actually, not so obvious. For there are many people, and some in high places in government, and some whose bad advice is given much heed to, who don?t get it. They think that the State is doing the banks a favour to be around, and you a favour by letting the banks be around, and hence the money is theirs to misspend. So they rail and rant that the banks are doing everybody a great disfavour by not lending enough, and investing their (sorry, your) money in government securities.
?Enough? is of course code for ?freely?; for banks are not mad, as may perhaps be said of their critics. Banks don?t let a good lending opportunity pass up. It is only at the point where the risk of lending is not compensated for by the price of the loan (that is, interest) that the bank ceases to lend. That is how you would behave, wouldn?t you? After all, you still keep your money in provident fund, post office and bank accounts, even after interest rates have been cut. You would not look at putting money in sundry company deposits, unless the interest rates were much higher. And if someone was trying to convince you to lend money to a building contractor, surely your asking price would be very much higher. It?s simple.
But policy makers hate simplicity ? they just love mixing things up and that magic word ?cross subsidy?; it lends just that touch of divine power to the exercise of office, lost ever since the land became a republic. So, banks have to lend 40 per cent of credit to the priority sector ? defined by you know who. The interest rates to be charged on these small credits are subject to ceilings (which are close to prime lending rates) ? irrespective of the quality of credit. Thus his republican majesty dispenses equity ? what a wonder, no?
Then, of course, if the economy is not growing fast enough, the onus of blame is on the banks, not on the managers of the economy. Government owns most banks and appoints their chiefs. So the latter can?t speak their mind, and say ?get lost?.
Before we close, there is another story: Government will rescue banks if they get into trouble while implementing official dictates. The evidence of the less than substantial nature of sovereign support is evident ? in UTI and IFCI. It is best that we don?t add to this list. Let banks do as they are supposed to ? conduct their business with prudence, care for your money and be their own masters, subject only to the oversight of RBI. Let government be content with the dividend cheques.
Saumitra Chaudhuri is economic advisor to ICRA (Investment Information and Credit Rating Agency) and editor of Money and Finance, the ICRA bulletin