The challenge of inclusive finance
Access to financial capital, or lack of it, could well be the single most critical factor that has widened the gap between small and large farms and firms, and indeed, between the haves and have-nots. One might say finance has been the “great unequalizer” that has fostered noninclusive growth in our economy over the years.
Consider our small farmers. It ought to disturb us that those who feed us all have traditionally and persistently been among the poorest in our midst, seemingly trapped with their families in a vicious cycle of poverty. For them, persistently low incomes result from lack of opportunities for higher productivity, which requires higher levels of investment. As an agricultural economics graduate of the University of the Philippines at Los Baños, I’ve seen countless researches demonstrating how improved technologies, techniques and farming systems could raise farmers’ incomes. The higher cost of needed inputs, such as improved seeds, fertilizers and chemicals, would be more than offset by higher returns from increased yields.
Such positive outcomes hinged on one fatal assumption: that farmers have the needed cash to obtain the required improved inputs. With their traditionally low incomes, this cash can only come with good access to credit financing. But this is where the system fails them. Such credit financing has always been difficult to access from the formal financial system, driving them to secure it from informal lenders who are mostly the very same traders that buy their produce at harvest time. This bondage to the trader forces them to sell at prices lower than they could otherwise obtain under a more competitive farm trading system. Meanwhile, those who would rather not get deeper in debt must settle for lower productivity and lower incomes. Either way, the farmer is trapped in a situation of persistently low income and perpetual poverty.
Have we been barking up the wrong tree all these years? For so long, we seemed to see land reform as the panacea to end rural poverty. We believed that once the farmer owns the land he tills, other things would fall into place and the farmers’ lot would improve. We expected that the land reform beneficiary would become bankable, and could present the farmland he now owns to the banks as collateral for accessing much-needed loans. Alas, it didn’t quite work out that way. Banks quickly realized the risk in accepting farmlands as collateral, as defaults could lead them
into accumulating an asset whose market has been distorted by the very program that put those assets in the hands of farmers. Besides, undue accumulation of defaulted farmlands could turn them into “CARPable” landlords subject to the same agrarian reform law. Banks have thus stopped accepting farmlands as collateral altogether. In the end, farmers’ access to bank credit has not improved.
All this suggests that rural finance, more than land ownership, has been the binding constraint keeping farmers poor all along. To be sure, the Land Bank of the Philippines, Agricultural Credit Policy Council and the rural banking system have tried various initiatives to address the problem through the years. But those initiatives seemed to have been dwarfed by the enormity of actual needs nationwide, and more so once we look beyond farmers and consider the needs of small and medium producers and enterprises in general. For example, the 2006 Global Entrepreneurship Monitor survey found that only one in 20 Filipino businesses accesses any bank financing at all.
There are at least three arguments why subsidy is warranted to improve access to financing by small farmers and SMEs. One, government has already been massively subsidizing farmers in private goods like seeds and fertilizers, when sound economics prescribes it to be in the form of public goods such as roads and common facilities. Apart from distorting the markets, such massive subsidies in private goods have been fraught with equally massive corruption leakages. Two, inclusive finance and the inclusive growth are in fact public goods desirable to all, thereby meriting such subsidy in lieu of the above. Three, inasmuch as farmers ultimately feed all of us taxpayers, they somehow deserve our support. Besides, international experience suggests that some measure of public subsidy for inclusive financing mechanisms is inevitable, necessary and, as argued above, justifiable. Japan’s MOTHERS stock exchange (for Market of the High-growth and Emerging Stocks), its innovative financing mechanism for SMEs via the equity markets, has seen repeated government capital infusions over the years. Korea’s highly successful farmers’ bank owned by the National Agricultural Cooperative Federation has similarly received substantial government support. So have the farm credit systems in Malaysia, Thailand, Indonesia and Vietnam.
The challenge lies in defining what form government support for inclusive finance should take. With market rates far below what farmers already pay informal lenders anyway, loans at below-market rates seem neither necessary nor advisable, fostering undue dependency while being unsustainable and short-lived. Experience has also shown that quotas on banks’ loan portfolios are counterproductive. Accessibility and transaction costs of formal credit for small borrowers have always been the greater hurdle, suggesting that any subsidy would be better directed at credit delivery systems and mechanisms, rather than lending rates. I don’t have the answers now, but we need far more creative ideas to get the wider financial system to put small borrowers on a level playing field with large ones.
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