Rural Credit

Need for Rural Credit

The demand for credit is divided into three parts. First, there is a requirement for new start-
ups or expansion of existing production lines. The credit market that services these needs is
called market for fixed capital. The capital is used for the fixed inputs such as production
processes, factories or machines. In contrast, the credit required for ongoing production
activity, which occurs due to timing difference of cost incurred and sales receipts. This
market is called market for working capital. Finally, there is consumption credit, which is
demanded by the people when downturn occurs or sudden fall in price of what they sell or
because of increase in consumption needs caused by illness, festivals or marriage.

The fixed capital is used in growth of the economy, but working capital and consumption
credit helps us to understand how the economy helps the poor people. In agriculture and low
income groups are depended on this type of credit for their sustenance. It shows the
importance of such kinds of credit.

In agriculture, the farmers require lot of working capital for purchase of seeds, fertilizers,
pesticides and so on. The money has to be paid up front so he or she has to borrow amd it
would be repaid when the crops are harvested and sold. This phenomenon of repeatedly
taking of credit and repayment form a integral part on farmers life. The availability of the
credit determines the economy well being and well being of millions of individuals.

Agriculture is a seasonal occupation. The labourers are hired in the harvesting period and rest
of the time they pass through lean period. The wages tend to be higher in harvesting period
compared to the lean period due to high demand in harvesting season. The consumption
credit helps them to smoothen their consumption pattern.

Who provides the rural credit?

Institutional lenders

The formal lending agencies are government banks, commercial banks, NBFCs and so on.
Many problems are associated with the institutional lenders. They do not have knowledge of
the usage of the loans. The people may take loans for fixed asset purchase but may use it for
consumption. It leads to lack of timely repayment of the loan as the return expected from the
productive resource is not available. Banks have policies which are most of the time not
suitable on the ground. They follow a top-down approach for credit disbursement. The
policies are made without keeping the beneficiaries in the approach. It leads to higher default.

The institutional lenders always seek collateral for disbursement of loans. They hedge the risk
by taking the land. The problem in this method is that the poor farmer may have a small
quantity of land and the banks may not be interested to give loans to them.

Co-operative Banks provide credit in rural areas. They take membership for loan
disbursement and distribute among themselves. It help to take loans as the interest rate are
lower. It forms priority sector lending in the economy. But the repayment of loans have been
poor. The dues in co-operative banks are estimated to be Rs.10000 crores.

Regional Rural Banks(RRBs) were set up by NABARD to increase provision of credit to

farmers. However it was limited to 1 or 2 branches per district. Addition to that, sponsoring
banks are also running their own rural branches in the very area of operations of the RRBs

Another problem is the accessibility of formal institutions in rural areas. As the economically
underdeveloped regions have lesser penetration of such institutions, access to banks becomes
difficult for poor people.

Non institutional lenders

Money lenders are the most ubiquitous non institutional lenders to the rural economy. They
accept land as collateral too. A large landlord who has land adjacent to a poor farmer will be
interested in giving loan. In case of default, he or she can appropriate the land. He can even
take labour as a form of repayment in case of non repayment of loan.

Moneylenders have a through understand of the requirement of credit of the rural people.
They can take many items as collateral which the formal institutions cannot take. This is one
of the main reasons for widespread dominance of money lenders in rural economy. The credit
provided by the money lenders is unregulated and they charge a very high interest rate.
Sometimes it crosses more that 100% per month.

Traders and commission agents also provide credit to the rural people in lieu of purchase of
goods like seeds or pesticides. They become as the marketing agency where they farmers
have to sell the produce to them at a dictated price.

Characteristics of rural credit markets

Informational constraints

The fundamental feature of rural credit markets is in the informational constraints. First, there
is lack of information on the use of loans. Second, there is lack of information regarding
repayment decision. This deficiency includes intrinsic characteristic of the creditor. Third,
limited knowledge of defaulter’s subsequent needs.

Interlinkage

A majority of village moneylenders do not pursue money lending as the sole occupation

Terms of transactions depends on other markets too

Interest Rate Variation

Low interest rates of 18% to more than 100%

Rationing

Upper limit on amount of credit; perceived credit limits

Exclusivity

Money lenders do not like when borrowers borrow from more than one source