Course: Credit Management (Module II: Credit Operations) NIBM, Pune

Module II: Credit Operations

Chapter 6: Agricultural Lending

Dr. Dinesh Jain

Objectives

The module will enable the participants to know and understand the following

1. Characteristics and Importance of Indian Agriculture to the Economic Growth

2. Issues and challenges of the Indian Agriculture and Importance of
Agriculture Finance
3. Types and purpose of agriculture Finance
4. Appraisal of Agricultural Credit : Processes, Practices, and Problems
5. Trends and Institutional framework of agriculture finance in India
6. Emerging Issues and challenges in Agricultural Finance
7. Risk Management and measures to improve agriculture finance

Structure

1. Indian Agriculture : Characteristics, Importance, Key Challenges and Role

of Agricultural Finance
2. Agricultural Finance: Definition, Types and Importance
3. Credit Appraisal : Processes, Practices, and Problems
4. Status of Agricultural Finance in India: Trends and Policy Perspective
5. Emerging Issues and challenges in Agricultural Finance in India
6. Risk Management in Agriculture

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Section 1

Indian Agriculture: Characteristics, Importance, Key Challenges and Role of

Agricultural Finance

1.1 Indian Agriculture

The history of Indian agriculture is very long. It contributes significantly to the

economic growth, employment, raw material for the industries, food supply,
government revenue (through direct tax and indirect tax), and trade. India holds the 2nd
largest agricultural land in the world at 157.35 million hectares and ranks second
worldwide in farm output. With 20 agro ecological regions and all 15 major agro
climates in the world existing in India, it also possesses 46 of the 60 soil types in the
world. While, India is the largest producer of spices, pulses, milk, tea, cashew & jute
and the 2nd largest producer of wheat, rice, fruits & vegetables, sugarcane, cotton &
oilseeds, it is one of the largest manufacturers of farm equipment such as tractors,
harvesters & tillers. It accounts for nearly one-third of the overall tractor production,
globally. About half of the overall main workers in India are engaged in agricultural and
allied activities for earning their livelihood. Agriculture growth is important for food
security and inclusive growth as well.

1.2 Indian Agriculture and its contribution to the economy

Agriculture has been the backbone of development for the last many years. Rural India
contributes about sixteen percent (16%) of total GDP and ten percent (10%) of total
exports. It is noteworthy that Agriculture and allied sectors accounted for over 13 % of
the GDP. Further, India exported $39 billion worth of agricultural products in 2013,
making it the seventh largest agricultural exporter worldwide and the sixth largest net
exporter. Of the 160 million ha of cultivated land about 39 million hectare can be
irrigated by groundwater wells and an additional 22 million hectares by irrigation
canals. Over 60 % of India’s land area is arable making it the second largest country in
terms of total arable land.

1.3 Characteristics of Indian Agriculture

Indian Agriculture is characterized by un-even distribution of land, and acute

fragmentation of land holdings. There are large number of small and marginal farmers
whose livelihood depends primarily on agriculture. There is regional variation with
respect to types of soils, types of crops and other production activities, production
season, production practices and there is too much dependence of seasonal rainfall.
Overall the productivity of land is low and with increasing population there is
significant rise in disguised unemployment, where more than desired number of
people are engaged in production activities. There has been disorder in marketing of

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agricultural products and a lot of wastage occurs while making the farm produce reach
our meal plates.

There are two major agricultural seasons in India: Kharif and Rabi. The kharif season
generally is referred to monsoon rain occurrence period of May/June to September,
while Rabi season involves period October /November to January/February. In some
regions of India, there is existence of third season which goes by name Zaid or Summer
Cropping Season involving period Mar –Apr to June. Rabi and summer crops requires
an artificial supply of water, referred to as irrigation as a large part of India does not
receive enough winter or summer rains. In India, the rainfall is mainly through
Monsoons that arrive during Kharif season and support rain based agriculture, The
crops grown mainly during Kharif include paddy, maize etc., while wheat, bengal gram
(chana), are rabi crops. A significant proportion of crops, particularly horticultural
crops (flowers, fruits, vegetables and medicinal plants) are also grown these days in
protected conditions through green houses.

The cropping pattern being followed in India includes mono cropping (only one short
term crop in a year on a farm), double cropping (two crops in a year on the same farm),
triple cropping (three crops in a year on the same farm), annual cropping (one crop
continues to be on the field throughout the year) and perennial cropping (one crop
continue to be on the field for many years e.g. fruit trees like mango, papaya etc.).

The farmers in India are categorized on basis of land ownership as owner Cultivator
and tenant cultivators. The tenant cultivators carry out agricultural production activities
on the land owned by others and pays to the owners a fixed amount or a predetermined
share in the crop production. The average land holding size in India is around 1 hectare
or 2.5 acre. On the basis of land holding the farmers are categorized into marginal
farmers (with land holding size up to 1 hectare), small farmers (with land holding size in
between 1 and 2 hectares), and other farmers (with land holding size more than 2
hectares). The other farmers include medium farmers (with land holding size in
between 2 and 5 hectares), large farmers (with land holding size between 5 and 10
hectares, and very large farmers (with land holding size more than 10 hectares).

Allied activities, which includes dairy, poultry, fishery, sericulture (rearing of silk
worms for silk production), forestry etc. are also critical for supporting the agricultural
growth. They constitute the non-farm activities and provide source of secondary and in
some cases the primary source of income to rural households. Normally a farm is
integrated and the entire household is involved in the farm and nonfarm activities. The
farmer often works as a laborer as well.

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Major growth drivers for Indian Agriculture in recent times include

• Demand Side Drivers: Population & income growth, Increasing exports and
favorable demographics

• Supply Side Drivers: Introduction and adoption of hybrid & genetically modified
seeds, mechanization, improving irrigational facilities, and initiatives undertaken
for green revolution in Eastern India

• Policy Support: Growing institutional finance, Increasing minimum support price,

introduction of new schemes like Paramparagat Krishi Vikas Yojana,
Pradhanmantri Gram Sinchai Yojana, Sansad Adarsh Gram Yojana, opening up of
exports of wheat & rice

1.4 Major gaps and challenges in Indian Agriculture and role of Agricultural Finance

Indian agriculture is facing various constraints and gaps, which need immediate
attention. There is un-even distribution of land and small farm sizes make it difficult
for Indian farmers to make efficient use of available resources. The net output per unit
of input is low and a large number of Indian farmers do not have enough surplus output
to sell in the market. A large number of farmers do not have access to assured irrigation
facilities like wells etc. and they are forced to do mono-cropping or produce less than
economically profitable output. Similarly, some producers do not have access to better
breed of animals for higher milk or poultry production. Further, there are serious
issues with respect to availability of quality inputs and efficient markets. Besides the
scale issues mentioned above, Indian agriculture is also constrained by age old
technology. There is a need to bridge the yield gap in low productivity regions by quality
inputs, technology, and other interventions. Enhancing productivity becomes important
in view of increasing demand for land for urbanization, industrialization, housing and
infrastructure. The above constraints are for both the farm and non-farm sector.

Additionally, it is noteworthy that the producers are vulnerable to huge volatility in

cash flow. The expenses happen throughout the year and income happens but once or
twice in lump sums. Further, there are no fall back mechanism for day to day needs as
well as for family expenses. Agricultural markets are dominated by buyers and
intermediaries and they do not provide the required relief for the producers. The
growers work in controlled output price market environment and they could not
demand for appropriate price for their produce. Also, there is lack of capital for making
investments for increased growth and almost no risk management tools with very low
insurance penetration and social security support. With savings being very low among
the small farmers, agricultural finance is slowly becoming an essential input along with
modern technology for higher productivity.
Similarly, various agro and food based industries do not access to enough quantity and

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appropriate quality of raw material, and they are suffering from lack of enough and
timely working capital requirements. Working capital is the capital beside fixed capital
that is required for the aground food based industries to pay in cash to meet daily
expenses including purchasing of raw material, labor wages, and other liabilities that
are due. Also, various micro industries face many problems like poor access to markets
& market information, lack of appropriate output price etc. along with unviable
competition with medium and large industries with respect to quality and price. This
demands for regular and timely access to finance.

Particularly, the rural population in India lack convenient access to credit and is subject
to exploitation due to high interest rates. Rural households need credit for investing in
agriculture and smoothening out seasonal fluctuations in earnings. They typically tend
to rely on credit due to small cash flows and savings in rural areas. They need access to
financial institutions that can provide them with credit at lower rates and at reasonable
terms than the professional money-lenders. It helps them avoid debt-traps that are
common in rural India. Also, timely and sufficient agricultural credit is important in
meeting the increased fixed and working capital needs for farmers.

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Section 2

Agriculture Finance: Definition, Types and Importance

1.1 Introduction

It has emerged in last three decades that finance is not only plays a vital role for survival
of the small and marginal farmers but also for enhancing the income for the large
farmers. Rural finance system are of critical importance as savings are insufficient to
and finance is essential for farming and other economic activities for a large number of
Indian rural families.

Agricultural finance is a subset of rural finance aimed at financing agricultural related

activities such as input supply, production, distribution, wholesale, processing and
marketing. There are distinct challenges involved in financing of the agricultural sector.
For example, the seasonal nature of agricultural production and too much dependence
of agricultural production on biological processes and natural resources make
agricultural producers subject to events beyond their control such as droughts, floods
or diseases. Agricultural finance includes provision of short, medium, and long term
loans, savings, leasing, payment services, and crop and livestock insurance.

1.2 Agricultural Credit

Agricultural Credit is as important as development of technologies. It provides farmers

and other producers means to purchase technical inputs, which otherwise could not
be purchased and used by them because of insufficient available savings. Borrowing
from an easy and comfortable source like friends, relatives, and professional money
lenders has its share of problems like insufficient funds, a high rate of interest, need of
assets to be kept as collateral, beside prestige issues. The financing of agricultural
businesses, particularly of a large number of small and medium farmers spread out in
rural areas have high transaction costs and leakages in rural financial systems are
routine.

The agricultural credit needs are as follows:

• Working Capital
• Crop Loan
• Small Business loans
• Marketing finance
• Trade Credit

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• Consumption Credit
• Family needs
• Medical Emergencies
• Social expenses
• Schooling of children
• Investment needs
• Asset Creation
• Risk Management
• Rainy day needs

1.3 Source of agricultural finance

Broadly, there are two sources of agricultural credit in India. They are (1) Non-Institutional
Sources and (2) Institutional Sources

(1) Non-Institutional Sources: They form an important source of rural credit in India,
constituting around one third of total credit in India. Non-institutional lenders
usually charge very high interest and keep the land or other assets. The
important sources of non-institutional credit are as follows:

a) Professional Money-Lenders: They charge very high rate of interest and

mortgage the property of the cultivators.
b) Traders, landlords and commission agents: They give credit on the
hypothecation of crops and the loans have to be repaid on harvesting of the crops.
c) Credit from relatives: These credits are generally used to meet personal
expenditure.

(2) Institutional Sources: Three major channels for disbursement of institutions or

formal finance include commercial banks, cooperatives and micro-finance
institutions (MFI) covering the whole length and breadth of the country. We will
discuss about them in detail in Chapter 4.

1.4 Types of Agriculture Credit

Conceptually, there are various types of agricultural credit based on period and purpose:

A. Time Period/Tenure of Agricultural

Credit: It can be of three types:

a) Short-Term: These loans are required to meet the short-term requirements

of the agricultural producer. These loans are provided generally for a period
not exceeding 15 months and are repaid after the crop harvest. These include

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loans required for the purchase of agricultural inputs like fertilizers, High
Yielding Variety (HYV) seed, or for meeting personal expenses like religious
or social ceremonies etc.

b) Medium-Term: This type of credit includes credit need of farmers for

medium period ranging between 15 months and 5 years. This is normally
larger in size than short term credit and is provided to meet credit needs
like purchasing of cattle, pumping sets, other agricultural implements, make
improvements on land, digging up of canals etc.

c) Long-Term: These loans are provided for a period of more than 5 years and
are generally required to buy tractor or additional land or for making
permanent improvements on land like sinking of wells, reclamation of land,
horticulture etc. The long term credit is normally larger as compared to small
and medium term credits. It requires sufficient time for the repayment of
such loan.

B. Purpose of Agriculture Credit:

The agriculture credit can also be classified on the basis of purpose of seeking
credit. The two types of agricultural credit are as follows:

a) Productive or agricultural production loan. For example purchase of tractor,

land, seeds etc.
b) Unproductive orconsumption loans.For example loans for expenditure on
marriages, religious ceremonies etc.

Reserve Bank of India has put agricultural credit under priority sector lending and
have broadly classified it into three broad categories: Farm Credit (including short-
term crop loans and medium/long-term credit to farmers) (ii) Agriculture
Infrastructure and (iii) Ancillary Activities.

1.4.1 Farm Credit

Farm Credit are loans provided for farm based activities and can be categorized into
two sub types on basis of borrower types. They are as follows:
A. Loans to individual farmers [including Self Help Groups (SHGs) or Joint Liability
Groups (JLGs), i.e. groups of individual farmers, provided banks
maintain disaggregated data of such loans] and Proprietorship firms of farmers,
directly engaged in Agriculture and Allied Activities, viz., dairy, fishery, animal
husbandry, poultry, beekeeping and sericulture. This includes
a) Crop loans to farmers, which will include traditional/non-traditional
plantations and horticulture, and, loans for allied activities.

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b) Medium and long-term loans to farmers for agriculture and allied activities
(e.g. purchase of agricultural implements and machinery, loans for
irrigation and other developmental activities undertaken in the farm, and
developmental loans for allied activities.)
c) Loans to farmers for pre and post-harvest activities, viz., spraying, weeding,
harvesting, sorting, grading and transporting of their own farm produce.
d) Loans to farmers up to Rs. 50 lakh against pledge/hypothecation of
agricultural produce (including warehouse receipts) for a period not
exceeding 12 months.
e) Loans to distressed farmers indebted to non-institutional lenders.
f) Loans to farmers under the Kisan Credit Card Scheme.
g) Loans to small and marginal farmers for purchase of land for agricultural
purposes.

B. Loans to corporate farmers, farmers' producer organizations/companies of

individual farmers, partnership firms and co-operatives of farmers directly
engaged in Agriculture and Allied Activities, viz., dairy, fishery, animal husbandry,
poultry, bee- keeping and sericulture up to an aggregate limit of Rs. 2 crore per
borrower. This will include:

a) Crop loans to farmers which will include traditional/non-traditional

plantations and horticulture, and, loans for allied activities.
b) Medium and long-term loans to farmers for agriculture and allied activities
(e.g. purchase of agricultural implements and machinery, loans for
irrigation and other developmental activities undertaken in the farm, and
developmental loans for allied activities.)
c) Loans to farmers for pre and post-harvest activities, viz., spraying, weeding,
harvesting, sorting, grading and transporting of their own farm produce.
d) Loans up to Rs.50 lakh against pledge/hypothecation of agricultural
produce (including warehouse receipts) for a period not exceeding 12
months.

1.4.2 Agricultural Infra-Structure

a) Loans for construction of storage facilities (warehouses, market yards,

godowns and silos) including cold storage units/ cold storage chains
designed to store agriculture produce/products, irrespective of their
location.
b) Soil conservation and watershed development.
c) Plant tissue culture and agri-biotechnology, seed production, production of
bio- pesticides, bio-fertilizer, and vermi composting. For the above loans,
an aggregate sanctioned limit of Rs. 100 crore per borrower from the
banking system, will apply.

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1.4.3 Ancillary Activities

a) Loans up to Rs.5 crore to co-operative societies of farmers for disposing of
the produce of members.
b) Loans for setting up of Agriclinics and Agribusiness Centres.
c) Loans for Food and Agro-processing up to an aggregate sanctioned limit of
Rs.100 crore per borrower from the banking system.
d) Loans to Custom Service Units managed by individuals, institutions or
organizations who maintain a fleet of tractors, bulldozers, well-boring
equipment, threshers, combines, etc., and undertake farm work for farmers
on contract basis.
e) Bank loans to Primary Agricultural Credit Societies (PACS), Farmers’
Service Societies (FSS) and Large-sized Adivasi Multipurpose Societies
(LAMPS) for on- lending to agriculture.
f) Loans sanctioned by banks to MFIs for on-lending to agriculture sector

1.5 Kisan Credit Card

Kisan Credit Card (KCC) scheme is an innovative credit delivery mechanism introduced
by Government of India in 1998 to enable the farmers meeting their comprehensive
credit requirements in a timely and hassle-free manner. The scheme has been
implemented all across the country by Commercial Banks, Regional Rural Banks (RRBs)
and Cooperatives and has received wide acceptability amongst bankers and farmers.
Under this scheme, the banking system provides the credit support to the farmers for
their cultivation & other needs through a single window system. The credits to the
farmers under KCC are of two types namely, Cash Credit and Term Credit (for allied
activities such as pump sets, land development, plantation, and drip irrigation). The
short term credit is being given for purposes, as indicated below:

1. To meet the short term credit requirements for cultivation of crops

2. Post-harvest expenses
3. Produce Marketing loan
4. Consumption requirements of farmer household
5. Working capital for maintenance of farm assets and activities allied to
agriculture, like dairy animals, inland fishery etc.

The term loans are provided for purpose of investment credit requirement for agriculture
and allied activities like pump sets, sprayers, dairy animals etc.

1.5.1 Arriving at the term limit for Short Term Credit for all farmers other than
marginal farmers

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A) For farmers raising single crop in a year, the short term credit limit is calculated
as follows:
a) For the first year:
Credit Limit = Scale of finance for the crop (as decided by District Level
Technical Committee) x Extent of area cultivated + 10% of limit towards
post- harvest / household / consumption requirements + 20% of limit towards
repairs and maintenance expenses of farm assets + crop insurance, personal
accident insurance scheme (PAIS), health insurance and asset insurance.
b) For second & subsequent year :
Credit Limit = First year limit for crop cultivation purpose arrived at as
above plus 10% of the limit towards cost escalation / increase in scale of
finance for every successive year ( 2nd , 3rd, 4th and 5th year) and
estimated Term loan component for the tenure of Kisan Credit Card, i.e.,
five years.

B) For farmers raising more than one crop in a year, the short term credit limit is to
be fixed as above depending upon the crops cultivated as per proposed
cropping pattern for the first year and an additional 10% of the limit towards cost
escalation/ increase in scale of finance for every successive year (2nd, 3rd, 4th and 5th
year). It is assumed that the farmer adopts the same cropping pattern for the
remaining four years also. In case the cropping pattern adopted by the farmer is changed
in the subsequent year, the limit may be reworked.

C) Term loans for investments towards land development, minor irrigation,

purchase of farm equipments and allied agricultural activities. The banks fix
the quantum of credit for term and working capital limit for agricultural and
allied activities, etc., based on the unit cost of the asset/s proposed to be
acquired by the farmer, the allied activities already being undertaken on the
farm, the bank’s judgment on repayment capacity vis-a-vis total loan burden
devolving on the farmer, including existing loan obligations.
D) Maximum Permissible Limit: The short term loan limit arrived for the 5th year
plustheestimatedlongtermloanrequirementwillbetheMaximumPermissible
Limit (MPL) and treated as the Kisan Credit Card Limit.

1.5.2 Arriving at the term limit for Long Term Credit for all farmers other than
marginal farmers

The long term loan limit is based on the proposed investments during the five year
period and the bank's perception on the repaying capacity of the farmer.

1.5.3 Arriving at the term limit for Short and Long Term Credit for marginal farmers

A flexible limit of Rs.10, 000 to Rs.50, 000 is being provided (as Flexi KCC) based on the

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land holding and crops grown including post-harvest warehouse storage related credit
needs and other farm expenses, consumption needs, etc., plus small term loan
investments like purchase of farm equipments, establishing mini dairy/backyard
poultry as per assessment of Branch Manager without relating it to the value of land. The
composite KCC limit is to be fixed for a period of five years on this basis. Wherever higher
limit is required due to change in cropping pattern and/or scale of finance, the limit may
be arrived at as per the estimation indicated above in 1.5.1.

1.5.4 Insurance under KCC

KCC credit holders are covered under personal accident insurance up to 50000 Rs. for
death and permanent disability, and up to 25000 Rs. for other risks. The premium is
shared by both the bank and borrower in a 2:1 ratio. The validity period is five years,
with an option of extending it up to three more years.

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Section 3

Credit Appraisal: Processes, Practices, and Problems

3.1 Introduction

The Credit Appraisal is a comprehensive exercise involving multiple processes and

practices to determine the credibility of the customer and assess the risks associated
with the extension of the credit. The associated risk is non-repayment of the credit. It is
usually carried by the banks which are proving credit to its customers. Proper
evaluation of the customer is performed to measure the financial condition and the
ability of the customer to repay back the loan in future. It begins when a potential
borrower walks into the branch and completes with credit disbursement and
monitoring. Usually, the credit is extended against a security known as collateral.

3.2 Credit Appraisal Process and practices

In order to appraise the credit worthiness of a person, factors like age, income, type of
employment, continuity of employment, number of dependents, repayment capacity,
history of previous loans, availability of credit cards, etc. are taken into consideration.
Each bank has its own panel of executives for credit appraisal. For appraisal of
agricultural credit, 5 ‘C’ of credit are crucial & must be kept in the mind at all times. They
are as follows:

1. Character: Educational Background, Status of Professionalism, Socio economic,

Political Initiative and Drive.
2. Capacity: Experience in the activity, track record, planning, budgeting and
review handling, production capacity, capacity utilization, professional capacity
to handle men, material, money and minutes, capacities to handle contingencies
and crises.
3. Capital: Extent of stake in business, Ability to raise finance, both owned equity
and debt, Ability to inspire and sustain investor confidence, Ability to absorb
losses (expected and unexpected), Structuring and budgeting capital.
4. Collateral: Risk perception and evaluation, Financial parameters like
Debt/equity ratio, Asset Cover, Interest Cover, Debt Service Coverage Ratio
(DSCR)
5. Condition: Condition of economy – growing, stagnant or depressed, Numbers
of competitors, Status of technology, Availability of manpower, material other
resources, Substitutes in the market, Demand and Supply, Government policies
and regulations

If any one of the above ‘C’s is missing or inadequate or unfavorable, then the lending

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officer must question the viability of credit. Although, the presence of above ‘C’s may
not guarantee that a loan does not run into problems; but still implementation of proper
credit evaluation techniques and monitoring minimize the probability / problems of
loan loss.

3.3 Stages of Credit Appraisal

Ideally, credit appraisal should comprise of following stages.

i. Interview with the proponent and obtaining of application on Bank’s

prescribed format.
ii. Adherence of KYC norms stipulated by Reserve Bank of India.
iii. Obtaining and verification of documents/financial statements according to
type of credit facilities
iv. Inspection: Pre sanction Inspection is done by Bank’s Officials. It includes
inspection of borrower’s residence, making inquiries from his area and collect
market reports, inspection of proposed principal and collateral securities
v. Preparation of credit proposal: The credit proposal contains information
like Proponent’s background, technical and economic viability of the activity,
appraisal of financial & managerial status, and future prospects.
vi. Sanction of credit proposal
vii. A sanction letter is given to the proponent
viii. If the proponent agrees to the terms and conditions stipulated by the bank,
he/she have to execute the security documents before the Bank’s authorized
officer and finally the account is opened to disburse the facility.
ix. After disbursement post sanction inspections are carried out by the Bank’s
official from time to time to ascertain the utilization of funds, for safeguard of
the advance and Bank’s interest in the security.

3.4 Problems in Credit Appraisal

Appraisal does not take into account other income if any

Similarly other expenses not provided for
A portion of incremental Income is presumed to be available/sufficient to pay the
loan and interest over the repayment period.
Lack of Collateral
Industrial appraisal is more favorable to the proponents
With project and without project method of appraisal
Lack of score cards
No benchmarking,
Cash flow problems

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Section 4

Status of Agricultural Finance in India: Trends and Policy Perspective

4.1 Introduction

Credit together with modern agricultural technologies has driven the agricultural
development across various regions of India. The liberal credit supply by the
institutional lenders enabled rapid infrastructural growth across. Although credit has
played vital role in agricultural development yet regional and farm-category wise
disparity has also taken place. In fact, some of the states with better natural resource
base have progressed well while some others lagged far behind. Likewise, some
farmers with better resource endowments and access to financial and other
institutions have marched faster while others could not do so. Furthermore,
multiplicity of lending institutions together with the liberal deployment of credit
through various ongoing schemes including micro-financing have saved rural dwellers
from the clutches of money lenders. Yet, non-institutional credit agents still survive as
they follow the canons of financing. As at end-March 2016, India’s co- operative banking
sector comprised of 1,574 urban cooperative banks (UCBs) and 93,913 rural co-
operative credit institutions, including short-term and long term credit institutions

4.2 Structure of Agricultural Credit System in India

Agricultural Credit System in India broadly comprise of Rural Co-Operative Banks,

Regional Rural Banks, and Commercial Banks (see Figure 1). Rural Cooperative Banks
are the oldest and most extensive form of rural institutional financing in India. These
cooperatives banks are aimed at preventing exploitation of the peasants by
moneylenders. The rural credit cooperatives are further divided into short-term credit
cooperatives and long-term credit cooperatives. RRBs are the specialized banks
established under RRB Act, 1976 to address the needs of the rural poor. RRBs are
established as rural-focused commercial banks with the low cost profile of cooperatives
and with the professional discipline and modern outlook of commercial banks.

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Government of India
Reserve Bank of India

NABARD

Commercial Banks Rural Cooperative Banks Regional Rural Banks

Short-Term Credit Structure

Long-Term Credit
Structure

State Co-Operative Banks

State Co-Operative
Agriculture and Rural
Development Banks
District Central Co-Operative
Banks

Primary Co-Operative
Agriculture and Rural Primary Agricultural Credit
Development Banks Societies

Depositors and Borrowers

Figure 1: Structure of Agricultural Credit System in India

4.3 Trends in Agricultural Credit

Over the years, the credit flow to agriculture has increased. Without doubt food
security, has been attained. Between 2004 and 2015 coop banks have increased the
credit flow 4 times, commercial banks 7 times and RRB 8 times. The disbursement for
crop loan was Rs 8, 77, 724 crores in 2015-16. During 2015- 16, there was a moderation
in the growth of UCBs’ balance sheets. Their profitability indicators and asset quality
also deteriorated. During 2014-15, the balance sheets of short term-rural co-
operatives, except primary agricultural credit societies (PACS), had undergone
deceleration in growth while the balance sheets of long-term rural co-operatives had
exhibited accelerated growth (see Figure 2). At the same time, there was an
improvement in asset quality across all rural cooperatives even as most of them
registered a decline in net profits.

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The number of primary rural co-operative credit institutions (both short- and long-
term) decreased in 2014-15, bringing down the total number of rural co-operatives to
93,913 from 94,718 in 2013-14. The share of short-term credit co-operatives,
comprising state co-operative banks (SCBs), district central co-operative banks
(DCCBs) and primary agricultural credit societies (PACS), stood at about 93 per cent of
the total assets of the rural co-operative credit institutions at end-March 2015 (see
Figure 3).

Figure 2: Percentage of Direct and Indirect Credit to Agriculture

Figure 3: Select balance sheet indicators of SCBs and DCBs

PACS witnessed growth in credit outstanding during 2014-15 after experiencing a

slowdown in 2013-14 (see Figure 4).

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Figure 4: Growth in credit outstanding from PACS

4.3.1 Agency-wise Credit Flow

The analysis of agency wise credit flow indicates that the commercial banks are the
major source of agriculture credit constituting over 70 percent of the total ground level
credit flow followed by cooperative banks and regional rural banks (see Figure 5).
Although the share of cooperative credit is quite low but still the reach of cooperative
credit societies is much wider. Cooperative credit societies have more than twice the
number of rural outlets and four times more accounts than those of scheduled
commercial banks and RRBs put together. Low recovery rates and mounting overdues
have clogged the process of recycling of credit by cooperatives, impaired their ability to
avail of refinance facilities from (NABARD), increased transaction costs and more
importantly, have deprived potential borrowers of the opportunity to avail of credit
facilities from the cooperatives. As a result, cooperatives have been losing their capacity
to meet the growing credit needs of agriculture.
Figure 5: Share of institutions in agri credit
80
70
60
50
40
30
20
10

Co-op Com Bk RRB

4.3.2 Size-wise Credit Flow

Despite impressive growth in direct credit to farmers from the scheduled
commercial banks in last three decades, contrary to expectation, credit disbursement

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to small and marginal farmers has not been encouraging. Though the number of
accounts increased for small farmers yet the credit flow favored the richer/ large
farmers.

Figure 5: Share in membership and borrower to member ratio

4.3.3 Region-wise Credit Flow

While analyzing the pattern of credit flow, it is observed that the proportions of
bank deposits and credit shares have moved in favour of the South, West and North
regions. While the share of loans in the total disbursement of credit for agriculture and
allied activities were the maximum for the South region, it was the minimum for North-
east region.

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Section 5

Emerging Issues and Challenges in Agricultural Finance in India

NPAs & Farm Loan waivers, Commodity Derivatives, Conversion of Loans

5.1 Introduction

There has been multiple emerging issues in agricultural credit which we need our
immediate focus. There are some questions that need answers. Why agriculture credit
is not growing as fast as one would want it to grow? Why all farmers are not included
in agriculture credit by formal banking institutions? What subventions can be extended?
How to avoid misuse of credit etc. Invariably every study and every discussion has
culminated in giving directions to banks to lend more, or offering concessions to
farmers. Yet the penetration of agriculture credit has not been impressive. More than
65 % of farmers are not in the formal credit fold. The key emerging issues are as
discussed in following sections.
5.2 Financing calculation

In arriving at the amount of SOF for crop loan labour cost is included but while financing
it is ignored: Further credit extended is limited to about 50% of gross cultivation
expenses. In effect labour cost this is treated as margin or down payment by the farmer.
This is ok for large farmers as they may, possibly have other sources of funds. But in
the case of small farmer the fund shortage will be acute if the labour cost is not financed.
In most such cases, farmers are not able to meet their household expenses as they,
invariably, do not have any other income. Given this not financing the labour cost and
extending inadequate credit pushes farmers towards money lenders to meet the gap
in funds. Such borrowing is invariably at high interest rate. This and the fact that Money
Lender ensures that sale proceeds of the production of the farmer is first apportioned
to his loan impacts the viability of bank credit.

5.3 Credit Disbursement to input vendors

A larger portion of the amount of loan will not be disbursed to the farmer but will be
disbursed through cheques to fertilizers shops, pump set dealers etc., to ensure end
use. This has been done to check for farmer misuse. Once up on a time when farmers did
not use fertilizer, kind component was a worthy idea. Today when fertilizer
consumption is optimal which demonstrates that farmer is aware of what fertilizer to
use and how much to use why disburse kind component? Why insist disbursal of loan
to the fertilizer vendor? Unfortunately, regulation that credit should be disbursed to the
vendor to prevent misuse prevail. A vendor is a stranger to contract and consideration. It
is based on the presumption that every farmer will misuse credit. In other words, it is
presumed that a farmer will not do farming or use poor quality fertilizer? This
essentially means the banker customer relationship is built on mistrust.

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5.4 Repayments are stipulated narrowly

Crop loan is repaid by the farmer and some ten days later the bank reissues the loan. A
farmer has to repay the loan at the end of every season or each drawal of loan should
be repaid at the end of one year. Once this is done the farmer can take another loan
immediately after repayment. These repayments are stipulated as a matter of financial
discipline. In case of cash credit for business firms only interest is stipulated payable
whereas the farmer must pay interest and principal. Even in respect of farmers who have
a good track record with a bank say for 10 years the repayment stipulations are not
relaxed. In KCC which is a cash credit, it is stipulated that every farmer has to bring the
season wise limit (Kharif limit and Rabi Limit) to Nil at the end of season or year
irrespective when the sale of produce is concluded and money received. In case of single
crop farmers this dries up the credit after the season till the next crop is sowed. (Banks
lend after the crop is sown not before!). In case of farmers with double crop this creates
a liquidity hiatus. It is important to note that a farmer faces continuous cash outflows
(getting the land ready, fertilising it, irrigating it, planting the seedlings and harvesting,
power, own expenses etc. ) throughout the year and his inflows are only one or two
depending on when the crop is marketed. As the bank fund is sucked out after the
harvest due to seasonality/ repayment discipline the farmer faces a liquidity crisis and
is forced to borrow from the market middlemen or money lender. This is a serious
issue which forces him to borrow from multiple sources.

5.5 Crop insurance does not indemnify full crop loss

The PMFBY, launched in April 2016, compensates farmers for any losses in crop yield. In the
event of a crop loss, the farmer will be paid compensation based on the difference between
the threshold yield and actual yield. The threshold yield is calculated based on average yield
for the last seven years and the extent of compensation is set according to the degree of risk
for the notified crop. The scheme is compulsory for farmers who have availed of institutional
loans.

The crop risks covered under the Scheme are:

Prevented Sowing/Planting/Germination Risk - Insured area is prevented from

sowing/planting/germination due to deficit rainfall or adverse seasonal/weather
conditions.

Standing Crop (Sowing to Harvesting): Comprehensive risk insurance is provided to cover

yield losses due to non-preventable risks, viz. Drought, Dry spell, Flood, Inundation,
widespread Pests and Disease attack, Landslides, Fire due to natural causes ,Lightening,
Storm, Hailstorm and Cyclone.

Post-Harvest Losses: Coverage is available for those crops which are required to be dried
in cut and spread in the field after harvesting only, upto a maximum period of two weeks

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from the date of harvesting, against specific perils of hailstorm, cyclone, cyclonic rains and
unseasonal rains

Localized Calamities: Loss/damage to crops due to occurrence of identified localized risks

of Hailstorm, Landslide, Inundation, Cloud burst and Natural fire due to lightening affecting
isolated farms in the notified area.

5.6 Growing NPAs and farm loan waivers

The share of NPAs amongst the total agriculture loans is increasing continuously for
both commercial banks and rural cooperative banks. This rise in nonperforming loans
may not be justified by stress in the sector as it is insufficient. According to Standard and
Chartered Securities, the real problem with farm loans is not slow growth but rising non
– performing loans as farmers expect more debt waivers. Figure 5.1 shows the NPAs
for Rural Cooperative Banks

Figure 5.1: Growth in NPAs for Rural Cooperative Banks

5.7 Conversion Issue

Conversion loan and refinance is often necessary to be extended to farmers by the bank
as it helps to keep the account in standard category and claim refinance. It also earns
interest whereas the farmer is distressed. Of course, the farmer is able to continue
farming. Conversion is not easy. This is because banks will not allow conversion
facilities unless crop loss is proved by crop cutting and the district authority declare
50% loss on a normal yield basis where normal yield is taken at 75% of the peak yield.
The most important issue in all this is how to prove a drought if the percentage of crop
loss is not declared by the district administration.

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Section 6
Risk Management in Agriculture

6.1 Introduction

Agricultural risk is associated with negative outcomes that stem from imperfectly
predictable biological, climatic, and price variables. These variables include natural
adversities (for example, pests and diseases) and climatic factors not within the control
of the farmers. They also include adverse changes in both input and output prices. To set
the stage for the discussion on how to deal with risk in agriculture, it’s essential that
the different sources of risk that affect agriculture are classified. Farmers make
decisions in a risky and ever-changing environment. Variability of prices and yields are
major sources of risks in agriculture. Changes in technologies, markets, policies and
social factors all contribute to the risky environment and determine the farmers’ future
profitability. Risks in farming activities can come from Unexpected Places and result in
low Prices, Drought or Disease/pests

6.2 Types of Risks

i. Production risk: Agriculture is often characterized by high variability of

production outcomes or, production risk. Unlike most other entrepreneurs,
farmers are not able to predict with certainty the amount of output that the
production process will yield due to external factors such as weather, pests, and
diseases. Farmers can also be hindered by adverse events during harvesting or
threshing that may result in production losses.
ii. Price or Market risk: Input and output price volatility is important source of
market risk in agriculture. Prices of agricultural commodities are extremely
volatile. Output price variability originates from both endogenous and
exogenous market shocks. Segmented agricultural markets will be influenced
mainly by local supply and demand conditions, while more globally integrated
markets will be significantly affected by international production dynamics. In
local markets, price risk is sometimes mitigated by the “natural hedge” effect in
which an increase (decrease) in annual production tends to decrease (increase)
output price (though not necessarily farmers’ revenues). In integrated markets,
a reduction in prices is generally not correlated with local supply conditions and
therefore price shocks may affect producers in a more significant way. Another
kind of market risk arises in the process of delivering production to the
marketplace. The inability to deliver perishable products to the right market at
the right time can impair the efforts of producers. The lack of infrastructure and
well-developed markets make this a significant source of risk.

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iii. Financial & Credit risk: The ways businesses finance their activities is a major
concern for many economic enterprises. In this respect, agriculture also has its
own peculiarities. Many agricultural production cycles stretch over long periods
of time, and farmers must anticipate expenses that they will only be able to
recuperate once the product is marketed. This leads to potential cash flow
problems exacerbated by lack of access to insurance services, credit and the
high cost of borrowing. These problems can be classified as financial risk.
iv. Institutional risk: Another important source of uncertainty for farmers is
institutional risk, generated by unexpected changes in regulations that
influence farmers’ activities. Changes in regulations, financial services, level of
price or income support payments and subsidies can significantly alter the
profitability of farming activities. This is particularly true for import/export
regimes and for dedicated support schemes, but it is also important in the case
of sanitary and phyto-sanitary regulations that can restrict the activity of
producers and impose costs on producers.
v. Technology risk: Like most other entrepreneurs, farmers are responsible for all
the consequences of their activities. Adoption of new technologies in
modernizing agriculture such as in introduction of genetically modified crops
causes an increase in producer liability risk.
vi. Personal risk: Finally, agricultural households, as any other economic
entrepreneur, are exposed to personal risks affecting the life and the wellbeing
of people who work on the farm, as also asset risks from floods, cyclones and
droughts and possible damage or theft of production equipment and any other
farming assets.

1.3 Managing risk

Managing Risk means try to “prevent some things to happen that you don’t want to, or to
make its effects as small as possible”. Effective risk management involves:
 Anticipating that a Unfavourable events may occur and acting to reduce
the chance of it happening and
 Taking Actions to Reduce the Adverse Consequences of Risks
should an Unfavourable event take place

1.4 Risk Management Strategy

Risk Management Strategies consists of many responses which may reduce the chance of a
“BAD” events occurring and/or reduce the effect of the “BAD” events if it occurs.

The Process has several steps:

1. Identify the possible sources of risk
2. Identify the possible outcomes or events that could occur (e.g. prices, weather etc.)

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3. Decide on the alternative strategies available

4. Quantify the consequences or results of each possible outcome for each strategy
5. Evaluate the trade-offs between risk and return

Making risky decisions requires careful considerations of the various strategies available
and the possible outcome of each. Some samples of risk responses are:

References
1. Bhaskaran, R. (2017). Musings on Indian Agriculture credit. Unpublished paper
2. GOI (2016). State of Indian Agriculture 2015-16. Ministry of Agriculture and
Family Welfare
3. Mohan, R. (2004). Agricultural Credit in India: Status, Issues and Future Agenda.
Reserve Bank of India Bulletin
4. RBI (2016). Report on Trend and Progress of Banking in India 2015-16. Reserve
Bank Of India

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