How farm loan waivers can hit corporate borrowing, RBI explains the math

By: | Updated: August 31, 2017 3:17 AM

Farm loan waivers by state governments have potential to crowd out corporate borrowing if financed through state debt issuance, the Reserve Bank of India (RBI) said in its annual report.

Farm loan waivers by state governments have potential to crowd out corporate borrowing if financed through state debt issuance, the Reserve Bank of India (RBI) said in its annual report. (Image: Reuters)

Farm loan waivers by state governments have potential to crowd out corporate borrowing if financed through state debt issuance, the Reserve Bank of India (RBI) said in its annual report. “Loan waivers could add to the fiscal burden over the medium term as they are essentially a transfer from taxpayers to borrowers. As per initial estimates, the total loan waivers announced during 2017-18 (up to August 2, 2017) amount around 0.4% of the GDP,” the RBI said. Depending on possible cutback under other expenditure heads, this may result in an increase in the consolidated GFD-GDP ratio of states by about 20-40 basis points.

The central bank indicated that an empirical exercise reveals that such random policy shocks have an enduring impact on market borrowings as evident from past episodes of such waivers. If overall government borrowings increase, yields on state development loans (SDL) may firm up posing higher interest burdens for states in future, the RBI said. Central government securities trade at the lowest yields, followed by SDLs and corporate bonds. If SDL yields go up, corporate bond yields are also likely to harden.

“Concomitantly, they can also crowd out private borrowers as the general cost of borrowings increases with pressure from higher government borrowings on the finite pool of investible resources in the economy,” the central bank indicated. According to the regulator, an empirical exercise indicates that a one percentage point increase in the ratio of state debt issuance to GDP is associated with a decline of 0.067 percentage point in the ratio of corporate bond issuance to total assets of corporates.

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