Guaranteed loans have multiplier effect

The Covid-19 pandemic has devastated many sectors in India leading to significant loss of livelihood. Salaried people have lost their jobs and the self-employed have been forced to shut down. 

Among other things, the government has announced a guarantee package of Rs 3 lakh crore for medium and small enterprises (MSME). The government will stand guarantee for loans taken by MSMEs. The government guarantee will enable the MSME sector to borrow collateral-free at good rates and restart their businesses. This will kickstart the virtuous circle of employment, consumption, and growth. 

The guarantee route allows the government to get more out of less. If 75-80 per cent of the companies that take a loan under this scheme repay them, then the government will only need to pay for the defaulting 20 per cent (around Rs 60,000 crore). The benefit is five times the amount spent (that too after a few quarters when the defaults occur). This is the multiplier effect of government-guaranteed loans. 

These guarantee programmes are good but not sufficient. The government should consider providing guarantees for loans taken by individuals to learn new skills or improve existing ones (vocational education courses). Periods of economic crisis like that of 2008 have always resulted in a boost to higher education and vocational courses in the advanced economies. The lack of employment opportunities ironically reduces the opportunity cost (lost wages) of pursuing these educational courses. In those countries, the government provides guarantees for education loans taken to pursue approved courses. Even the unemployed get collateral-free education loans. 

Lenders regard education loans as risky as most borrowers don’t have the capacity to pay even the interest during the course period. Moreover, the borrower may not be able to pass the course, or having passed, may not get a job. Most lenders in India steer clear of education loans unless they are backed by collateral or by the repayment capacity of family members. Even then it is not easily available. 

The Indian government provides interest subsidy on education loans which does not make them safer for banks. The government never provided guarantees even though the education cess was initially meant to create an education loan guarantee fund.  Unfortunately, the proposal for this fund got lost in the bureaucratic corridors. This proposal needs to be resurrected and implemented as soon as possible, at least for short-term vocational courses. 

Such a scheme will have many benefits. First, a government-guaranteed loan will provide a good use for banks’ surplus liquidity. Second, the programme will be marketed by institutions whose courses are approved and the uptake will be quick. Third, the education sector leads to many spinoff benefits. An example is what this sector has done for the economy of a small town like Kota. Fourth, and the politicians will love this, people who are pursuing educational courses are out of the reckoning for seeking employment and hence the unemployment rate will drop. Fifth, and most importantly, this investment in human resources will pay back in higher earnings and higher taxes over time. ‘

This programme can be successful only if done at scale and with speed. The current government has shown the gumption to take big decisions and will hopefully consider this suggestion positively.

The writer heads Fee Only Investment Advisers LLP , a Sebi-registered investment adviser



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