Compound interest

Govt has recently announced waiver of compound interest for 6 month period between Mar 2020 till Aug 2020 for borrower availing loan less than ₹2 cr in eight identified sectors (MSME, housing, education, consumer durables, credit card, auto, personal loan to professionals and consumption loan). Amount of relief will be calculated as the difference between simple interest and compound interest and this is expected to cost the exchequer Rs. 6500 cr. 

Assuming interest rate of 9% p.a., the principal amount works out to Rs. 16 lakh crore. And further assuming average ticket to be Rs. 10 lakh, the number of borrowers benefiting from the scheme can be estimated as 1.6 crore which implies benefit per borrower as Rs. 4000 on an average. While for individual borrower, the amount is quite small, but the burden it creates on Govt is quite enormous. This money could have been effectively used elsewhere, may be for infrastructure development which gives long term dividends to the society at large. Waiver of loan interest or principal amount creates a bad credit culture in the country wherein people start thinking that banks or Govt has unlimited supply of money but they forget that there are no free lunches in the world. To divert ₹6500 cr for this purpose, either Govt has to cut down some other essential expenditure or borrow the money or start money printing. All of these have adverse impact for the future, particularly printing money by way of deficit monetisation creates inflation which reduces the value of money in the hands of people, effectively creating imposing a tax. If people don’t pay the service availed by them, Govt imposes inflation tax and thus we can’t escape paying for the services. 

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