The health of our rural economy has been a challenge for long. Despite contributing less than 20% of the national GDP, nearly 55% of the country’s workforce is employed in agriculture. During the seven years between 2012-13 and 2018-19, the average monthly income of a farm household recorded a modest growth from around Rs 6,500 to Rs 10,200. The biggest challenge faced by India’s agriculture sector is that nearly 9 out of every 10 farmers in India are small or marginal ones i.e., hold less than 2 acres of land each.
While the absence of economies of scale brings home many challenges affecting the overall productivity of small and marginal farmers, the most persistent one has been the lack of formal finance. The situation is further accentuated because typical farm produce in India goes through several intermediaries between the farm and fork including traders, processors and retailers. These participants which are generally categorised as Micro, Small and Medium Enterprises (MSMEs) are a significant part of the country’s rural economy. According to the Draft National Policy of MSMEs, there are more than 6 crores of them, mostly located in rural areas of the country and a good many of them don’t have access to formal banking or what is known as Supply Chain Finance (SCF).
Unlike developed economies in Europe and the US where nearly 90% of funding is backed by some or the other form of guarantee funds, in India, such schemes have seen little success as the overall creditworthiness of SMEs is precarious and difficult to assess for lack of formalisation. This results in agri-dependent MSMEs seeking informal, local sources of finance that come at an exorbitant interest cost.
Further, agriculture supply chains are more complicated than other supply chains. Agriculture supply chains not only have many more participants but also depend on various external factors. The first 2 legs of the supply chain i.e., farmer to commission agent and commission agent to trader/processor lack collateral, which the traditional banking system requires, and also lack liquidity which adds stress to the entire supply chain.
SCF is an absolute necessity to bring stability and flexibility to these agriculture supply chains by bringing the lowest cost of capital to where it is needed most. A customised and demand-based credit will shift the focus from survival to improving efficiency, aid innovation, and investment in newer products and methods of farming thereby increasing the yield and income of farmers.
Since SCF is a form of ‘metered’ credit which is linked to actual trade transactions and cash flows of borrowers, designing and delivering appropriate SCF products can leave a positive imprint across the agricultural chain:
• Dealer finance to retailers and distributers to provide liquidity support and extended credit to them.
• Payable finance for traders to pay farmers and commission agents on time.
• Sales bill discounting for traders to receive early payments for sales to reputed corporates resulting in immediate liquidity; and
• Farmer cards which can be used by farmers to pay for inputs and fertilisers and also to receive payments in the card when they sell their produce, leading to cashless transactions.
Apart from traditional SCF products, newer credit models are being tested across various pockets of the country. E.g., Farmer Producer Organisations (FPOs) are forming Joint Liability Groups (JLGs) and solving for repayment guarantees and creditworthiness for member farmers. JLG models, which were made successful by MFIs are now being adopted by banks to extend credit to the farm sector.
The availability of verifiable KYC data today coupled with lender’s ability to access and assess actual transaction data between buyers and sellers provides a strong alternate mechanism to manage credit risk both whilst onboarding borrowers and while monitoring them through the life of the loan facility.
Such customised SCF products that differentiate themselves from formal banking address many of the endemic challenges faced by Indian agriculture, including the cost and speed of finance, ability to service without collateral, address seasonal demands and define end-use to prevent misuse of funds.
Injecting SCF into Indian agriculture can unleash stronger and sustainable growth in the primary sector. According to the Reserve Bank of India, for every one per cent increase in real agricultural credit, real agricultural GDP increases by 0.22%. Further, farmers who have access to formal credit on average earn 17 per cent more than the ones dependent on informal credit.
For far too long we have allowed the fortunes of our farm sector to be swayed by way too many uncertainties including the availability of quality inputs, absence of mechanisation and modern technology, excessive dependence on monsoons, unscientific and opaque pricing mechanisms etc. The lack of reliable sources of credit that come with reasonable conditions is perhaps one of the biggest challenges faced by our rural economy. This can be fixed by changing the way we finance the entire ecosystem.
Perhaps SCF is the solution staring at us in broad daylight.
The writer is Chief Credit & Risk Officer of Vayana Network.