Interesting Facts about the Restructuring Priority Sector Lending in India
The scheme of PSL Priority Sector Lending in India (the fixation of the targets and the sub-targets) must be structured according to the type of bank along with various other considerations such as branch availability and the willingness of the bank to lend to a particular sector. So what is the Priority Sector Lending: The RBI mandates banks to lend a certain portion of their funds to specified sectors, like agriculture, Micro, Small and Medium Enterprises (MSMEs), export credit, education, housing, social infrastructure, renewable energy among others. All scheduled commercial banks and foreign banks (with a sizable presence in India) are mandated to set aside 40% of their Adjusted Net Bank Credit (ANDC) for lending to these sectors. Regional rural banks, co-operative banks and small finance banks have to allocate 75% of ANDC to PSL. The idea behind this is to ensure that adequate institutional credit reaches some of the vulnerable sectors of the economy, which otherwise may not be attractive for banks from the profitability point of view.
Covid-19 has forced us to re-examine many things from the past. The importance of health and education infrastructure has been sharply highlighted. One such thing that needs to be re-examined can be Priority Sector Lending (PSL).
The concept of ‘Priority sector lending’ focuses on the idea of directing the lending of the banks towards a few specified sectors and activities in the economy. Banks today, lend nearly 40% of their adjusted net bank credit (ANBC), a not inconsiderable ₹39,50,205 crore, to the priority sector. In the present context, there is a need to balance economic growth and social development. Thus, the Public Sector Lending as a concept and as a practice can be ‘reprioritized’.
History & Background of Priority Sector Lending In India:
Underlying Philosophy: The Constitution of India inherently provided the aims and guidelines of inclusive growth and development through the ‘directive principles of state policy. Further, the bend of the governance in India towards ‘socialist principles’ and ‘socialism’ was quite evident in the post-independence era. This forms the underlying philosophy around the need for priority sector lending. Triggering Point: The most primary sector of the economy at that point in time i.e. agriculture was in need of funds but it was not the desired avenue for the commercial banks.
Origin of Priority Sector Lending (PSL): Thus, in July 1966, the All India Rural Credit Review Committee recommended that the commercial banks should play a complementary role in extending the rural credit. This moment can be traced to the origin of Priority Sector Lending PSL in India. However, the definition for PSL was only formalised based on a Reserve Bank of India (RBI) report in the National Credit Council in 1972.
Objective Priority Sector Lending (PSL): The PSL allows the commercial banks to generate high social returns along with profits and it also contributes to economic development by increasing investment in the strategic sectors. Regulatory Control Priority Sector Lending (PSL): The Reserve Bank of India, which is the supervisory body of the banking sector in India, also referred to as the Apex Bank of the country, has from time to time issues instructions/guidelines/directives to the banks in India with regard to the PSL. Constituents: Presently, Priority Sector Lending PSL includes eight identified sectors. The biggest is agriculture with an 18% target of total Adjusted Net Bank Credit. The other important category is MSMEs. In addition, five sectors are classified as Priority Sector Lending PSL — housing, export credit, education, social infrastructure and renewable energy.
Issues With the Rules of Priority Sector Lending (PSL)
High Burden of NPAs: Despite the tweaks, the classification retains a heavy focus on agriculture and small industries (defined as micro, small and medium enterprises or MSME) till today.
The banks lending to these categories have double-digit non-performing assets (NPA) in their loan portfolios, making the sector economically unviable for them. The banks then have to set aside the capital to account for assets that might be decreased due to NPAs which erodes the profitability of the banks. The problem of Moral Hazard: Granting loans to this borrower segment with the high probability of NPAs creates corruption opportunities for bank managers and creates moral hazards for the identified beneficiaries.
Economic Burden of Banks: Priority Sector Lending PSL diverts funds from the productive sectors, imposes economic burdens on the banks in the form of loan losses and payment defaults and also imposes opportunity costs of lending to non-priority sectors of the economy. Capping Issues: Educational infrastructure has a low credit limit of ₹5 crores. Also, health is only a sub-category of social infrastructure with a ₹10 crore limit for building hospitals.
PSL Priority Sector Lending to Grants: Converting some part of PSL to a grant paid directly by the government can unlock large amounts of efficiency in the system, and dramatically increase the valuation of public sector banks also. Leveraging JAM for Social Development: The full possibilities of JAM (full access to Jan Dhan accounts, universal Aadhaar numbers and near-universal mobile penetration) can address the issues that PS lending cannot achieve. For example, JAM can institutionalise the functioning of direct benefit transfers (DBT).
Increasing Quota of Social Infrastructure: Covid-19 has forced us to re-examine many things from the past. The importance of health and education infrastructure has been sharply highlighted. Thus, PSL Priority Sector Lending should be restructured to prioritize the formation of social infrastructure.
In Sep 2020, the Reserve Bank of India (RBI) released revised Priority Sector Lending (PSL) guidelines, which align with emerging national priorities and also bring a sharper focus on inclusive development.
The PSL guidelines were last reviewed for commercial banks in April 2015 and for Urban Co-operative Banks (UCBs) in May 2018.
Revised Priority Sector Lending (PSL) Guidelines:
Fresh Priority Sector Lending (PSL) Categories: Bank finance to start-ups up to Rs. 50 crore, loans to farmers for installation of solar power plants for solarisation of grid-connected agriculture pumps and loans for setting up Compressed BioGas plants have been included as fresh categories eligible for finance under priority sector. Farmers’ Related: Higher credit limit has been specified for Farmers Producers Organisations (FPOs) undertaking farming with assured marketing of their produce at a predetermined price. Loans for these activities will be subject to an aggregate limit of Rs. 2 crores per borrowing entity.
The targets prescribed for small and marginal farmers and weaker sections will be increased in a phased manner. It has defined farmers with landholding of up to one hectare as marginal farmers, and farmers with a landholding of more than one hectare and up to 2 hectares as small farmers. Boosting Credit: The credit limits for renewable energy, health infrastructure, including the projects under ‘Ayushman Bharat’, have been doubled.
Bank loans up to a limit of Rs. 30 crores to borrowers for purposes like solar-based and biomass-based power generators, windmills, non-conventional energy-based public utilities, etc. For individual households, the loan limit will be Rs. 10 lakh per borrower. Bank loans up to a limit of Rs.10 crore per borrower for building healthcare facilities including under ‘Ayushman Bharat’ in Tier II to Tier VI centres have been allowed.
Addresses Disparity: It seeks to address the issues concerning regional disparities in the flow of priority sector credit at the district level which includes: Ranking districts on the basis of per capita credit flow to the priority sector. Building an incentive framework for districts with comparatively low flow of credit and a dis-incentive framework for districts with comparatively high flow of priority sector credit. Higher weightage has been assigned to priority sector credit in ‘identified districts’ where priority sector credit flow is comparatively low.
Benefits Priority Sector Lending (PSL) :
Revised PSL guidelines will enable better credit penetration to credit deficient areas; increase the lending to small and marginal farmers and weaker sections; boost credit to renewable energy, and health infrastructure.