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Getting banks to lend

To say that the current global crisis might abate if only banks resumed their traditional function of lending to business and industry might sound too simplistic. Yet it is true that, in most of the developed countries, the inability or unwillingness of banks to lend even to one another has been one of the defining characteristics of the financial sector crisis that has morphed into a global economic crisis. Even companies of standing have been denied loans, and if this continues many firms will not be able to survive. For almost a year now, central banks and governments the world over have been trying to solve the problem in a variety of ways. In the developed world, massive doses of liquidity have been injected and the interest rates brought down to unprecedented levels. Neither these nor the less conventional measures such as recapitalising banks and guaranteeing inter-bank transactions have so far had the desired results. In the United Kingdom, for instance, the authorities are unable to ensure a minimum level of bank lending. More innovative methods to buttress the financial system such as providing insurance cover to distressed assets — the device employed by the U.S. authorities while rescuing the Citigroup — may be tried out. However it seems unlikely that the credit markets will revive in a robust manner until the global economic outlook improves dramatically.

As for India, the economic slowdown and the heightened risk of subsisting loans turning bad appear to be inhibiting banks from extending fresh loans especially to the small and medium enterprises. The seemingly robust annual growth of 30 per cent non-food credit has recorded over the past three years hides the fact that many critical areas of the economy, perceived to entail greater risk, are not getting their due. In government banks, risk-aversion is rooted in a fear psychosis that has inhibited commercial decision-making. These banks, despite record deposit mobilisation, are still playing safe and buying government securities far in excess of statutory requirements. It is time the government, while exhorting the public sector banks to lend liberally, also moved decisively to correct the outdated risk-reward mechanism. In western countries, governments have large stakes in major financial institutions. It would be interesting to see how they overcome the excessive caution that permeates decision-making in the public sector.

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