**Plc,Planning, and Research**

# **Agricultural Policies**

Subsidized formal credit to the agricultural sector has been advocated as more efficient, equitabic, and casier to implement than, say. land reform. But thc record on subsidized credit to farmers is dismal.

Until recently, it was argued that imposing low ceilings on intercst rates and allocating massive amounts of credit to rural financial markets would yield rural development and improve income distribution. But 20 years of subsidized credit have only made matters worse.

Low interest ceilings effectivel) distort the real cost of investment and transfer incomc to large landowners (not Ihc poor); 5 perccnt of borrowers reccive 80 percent of tihe credit. The - default rate is higi particularly among largc landowners - everywhere but in East Asia, partially because Lirmiers see the loans as granis or welfare and cnforcement is lax. And creditors often cxchange loans for political favors.

> * Strict auditing and accounting procedures and forceful enforcementi of penalties.

> * Some form of joint responsibility or liability by 'small groups of farmers, whereby default by onc member cancels future loans to Ihc whole grc up.

Policy reform should take accounit the inlstitutional structure of the rura. cconomvincluding the difficulty ol asscssintg risk in rural borrowers or knowing hat tlhey do with borrowed funds - and recogniitioni ol thie imiportance of existing infonnal (including sharccropper) credit markets.

Gctting credit to small-scale famiers has becn difficult because of higher transaction costs per dollar lent for small loans: lack of collateral and the belicf that small agenis arc I gcr risks than large agents: and patronage and arbitrary dccisions in favor of larger-scale farmers.

Agricultural credit is intrinsically difficult, because of the seasonal nature of the activity, the peak-load demands, the convention of repayment once in harvest scason, and the fact that bad luck can strike many borrowers at once. Common featurcs in the success stories recounted by Braverman and Guasch arc thcsc: With,lolding of new loans until old loans arc repaid.

Organized credit groups havc aiisen to overcomc these problems, but their failure rate has bcen high. The key ingredients for lheir success are a coherent system of incentives consistcnt with the informational structure, and strong cnforccment procedurcs. Somc forn of joint liability structure is desirable for group lending. Particular care needs to bc taken in the design ol the group, regarding size and incentives.

This paper is a p,oduct of the Agricultural Policies Division, Agriculture and Rural **Dcvelopmcnt** Dcpartment. Copies **arc** availablc free from the World Bank, 1818 H Strect NW, Washington DC 20433. Plcase contact Ciccly Spooncr, room J2-084, cxtension 37570 (39 pages).

The PPR Working Paper Scries disseminates the findings of work under way in thc Bank's Policy, Planning, and Rcsearch Complex. An objective of the series is to get these findings out quickly, even if presentations arc less than fully polished. The findings, intcrpretations, and conclusions in these papers do not necessarily represent official policy of the Bank.

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