Disbursement of fund cannot be increased without providing risk cover

Sep 17 - 23, 2007

Pakistan is often termed an agrarian society, lending to the farmers has remained an unmanageable issue. The government wishes to increase lending to farmers, particularly to the small ones, but financial institutions are reluctant because they cannot hedge their risk. The banks extend agriculture loans at much higher interest rate but the level of comfort is not there. In the recent past commercial banks were willing to pay the penalty for not meeting the target rather than disbursing loans to the farmers.

Lending to the agriculture sector is for buying seed, fertilizer, pesticides and agricultural implements. While lending for agricultural implements could be collateralized, disbursement for other inputs cannot be collateralized, as they become part of the crop with the passage of time. Since agriculture is exposed to natural calamities it is difficult to quantify the potential losses.

Lately, due to pressure of the government and the demand of commercial banks efforts are being made to introduce Crop Insurance. A few banks and insurance companies have initiated a pilot project to evaluate and compare the potential risk with the actual payment of claims. However, unless crop insurance is not introduced at massive scale, premium rate would be higher. The rule of thumb is larger the number of clients lower is the premium.

Lending to the agriculture is being done by one specialized bank and almost all the commercials banks. However, bulk of the loans pertains to "Big Five". The logic is simple they have the outreach and the expertise. They have been disbursing loans for decades.

The private banks were initially reluctant to venture into this high risk business, mainly because of limited outreach. Most of the branches were located in the urban areas. However, with the opening up of branches in the rural areas the outreach has improved considerably. The data shows that the percentage of agricultural loans disbursed by the private banks is on the rise.

Orix Leasing Pakistan is the first leasing company to initiate tractor leasing in the country. The experience is proving fruitful because the only specialized financial institution has not been able to extend loans for the procurement of tractors. Historically, sale of tractors in the country has remained dependent on financing by the government sponsored specialized institution.

Agriculture contributes nearly 25% to country's GDP but lending to the sector has remained too low. Only a small percentage of farmers could benefit from lending to the sector. Though, on books bulk of the disbursement is to small farmers, the actual beneficiaries are big landlords.

These feudal lords have transferred the land in the names of their workers after the introduction of land reforms but they remain the undisputed owner. Since the feudal lords have access to power corridors they often succeed in formulating policies, which are for their benefit.

It is being said that land reforms introduced in the past have resulted in fragmentation of landholdings. Since the income of small farmers is very low they could not benefit from agriculture loans and crop insurance. Therefore, the prudent approach would be to introduce a "Land Consolidation Policy" in the country.

The government is also propagating the idea of corporate farming. The idea behind this strategy is to consolidate the small holdings and enter into mechanized farming. It is believed that small holdings do not allow mechanization.


Lending to agriculture sector cannot be increased without extensive crop insurance. However, the point is dispute is who should bear the cost? In the agriculture sector the biggest stakeholder is the government. In case any natural calamity it has to take the biggest hit by writing off loans as well as distributing compensation among the calamity hit people. If crop insurance is introduced it would relieve the government from this burden. Therefore, the best option is that the government takes the responsibility of paying the premium during the first couple of years.

Another suggestion is that since financial institutions are hedging their risk they should pay the premium. The approach sounds prudent but part of the burden has to be borne by the farmers. The logic is that when people get any thing free of cost they do not understand its real worth.

There is also a complaint that banks charge very high interest rate on agricultural loans as compared to the rate being paid by the industries. The financial institutions rationalizing the rates say "higher the risk higher the interest rate". However, this vicious circle has to be broken through hedging the risk, by introducing crop insurance.

According to the central bank review the share of agricultural credit compared to overall credit portfolio of banks is around 6%, which is a very low. The share further declines to 3% if the share of specialized banks is excluded. Of the total loans extended by the specialized banks around 96% have been extended to the agriculture sector. In absolute terms, total loans to agriculture have been increased to Rs142 billion (11 months) from Rs138 billion in FY05.

The outstanding NPLs of agriculture sector have dropped significantly and stand at Rs29 billion in CY06 as compared to Rs43 billion in CY05. However, in percentage terms, these are still highest among all the sectors i.e. corporate, consumer and SMEs. Besides some inherent weaknesses, a relatively higher rate of default in agriculture sector may be the reasons.

The global order is changing fast and consequently challenges facing agriculture sector are becoming increasingly demanding. The future of this sector and its contribution to the national economy will depend on how agriculture is positioned to meet the internal and external market challenges. In Pakistan, agriculture has a unique role to play in growth, poverty alleviation, employment, and environmental protection.