Speeding Financial Inclusion

This study sought to collate primary research based on our grassroots experiences from several project sites and field visits; and views from all stakeholders so as to arrive at key interventions and intermediations to speed up the process of financial inclusion, and thereby poverty alleviation. Apart from providing key recommendations in the form of a roadmap to speed up the process of financial inclusion, the study also sought to determine the viability and cost effectiveness of the business correspondent (BC) model and has identified several options to make the model viable.

Preface

C Rangarajan
The Indian economy has done well in recent years. The average rate of growth of
the economy in the last five years has been 8.5 per cent. During the three year
period 2005-06 to 2007-08, the annual growth rate exceeded 9 per cent.
However, the growth rate slowed down to 6.7 per cent in 2008-09 primarily due
to external factors. The growth rate in the current year (2009-10) is likely to
remain more or less at the same level. Even as we address the immediate
problems, we must keep in mind the medium and long-term goals, and the
constraints that need to be overcome in order to achieve these goals. Inclusive
growth as you all know has become almost an expression of common usage
now. Inclusive growth attempts to bridge the various divides in an economy and
society, between the rich and the poor, between the rural and urban populace,
and between one region and another. That is a formidable task. The process of
growth has to be such that all sections of society benefit from the growth process
and that is the essence of inclusive growth.
In the post-independent economic history of our country, 1991 is an important
landmark. This was the year in which the country faced an acute economic crisis,
triggered largely by a severe balance of payments problem. The response to the
crisis was to put in place a set of policies aimed at stabilisation and introducing
structural reforms. These structural reforms, introduced since 1992-93, have
been intended to remove the rigidities that had entered into our economic
system. The primary objective of the new economic policy was to improve
productivity and efficiency of the system by injecting a greater element of
competition. This break with the past happened in three important ways. First,
the unnecessary controls and licences were dismantled and entrepreneurs were
Dr C Rangarajan is currently Member, Rajya Sabha. He was formerly Governor, Reserve Bank of India,
Governor, Andhra Pradesh, and Chairman, Economic Advisory Council to the Prime Minister of India.
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given greater freedom to decide what to produce, how to produce and where to
produce. The second challenge was to reverse the extreme bias towards state
ownership of enterprises. Some of the areas exclusively reserved for the public
sector have now been thrown open to the private sector. But there are still large
areas in which the public sector still plays an important part and it will have to
compete in those areas with the private sector. As has been somewhat
paradoxically said, “more market does not mean less Government but only
different Government”. Nevertheless, I think the role and the importance attached
to public enterprises has undergone a change and that was the second break
with the past. The third was the greater integration of the Indian economy with
the rest of the world. Such integration has its plusses and minuses, but I think by
integrating with the rest of the world, India is proving that through productivity and
efficiency improvements it can stand competition with the rest of the world.
That the content and approach of our economic reforms is in the right direction is
evident from the rapid progress that we have made in recent years. In the
decade before the introduction of the reforms, the average rate of growth of the
economy was 5.6 per cent. But in the period since 1992-93, the average rate of
growth has been 6.8 per cent and more recently, we have been able to show a
significant uptrend in the growth rate.
However, there are many imperatives in the way forward. We need to sustain
the present rate of growth, if not accelerate it to higher levels. We need to
translate growth into poverty reducing growth, a process of growth to which the
poor can contribute and from which the poor can also benefit. We need to
expand the employment opportunities and improve productivity across all sectors
of the economy. We need to narrow economic disparities across and within
states without compromising on efficiency. We need to improve the social
indicators. India still ranks a low 128th in the United Nation Development
Programme’s Human Development Index, coming in the bottom one-third of the
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league of nations. Thus, the agenda for achieving growth and poverty reduction
is formidable.
One aspect of inclusive growth is financial inclusion. The process of financial
inclusion is an attempt to bring within the ambit of the organised financial system
the weaker and vulnerable sections of society. Financial inclusion can be
defined as the delivery of credit and other financial services at an affordable cost
to the vast sections of the disadvantaged and low income groups. The various
financial services include savings, credit, insurance and payments and
remittance facilities. It will be wrong to classify all those who are not borrowing
from the organised financial system as excluded. What is relevant is that whether
those who need credit and who want credit from the organised system are
included in the ambit of the financial system or not. The criterion for being
bankable should not be interpreted narrowly to exclude the vast majority. The
objective of financial inclusion is to extend the scope of activities of the organised
financial system to include within its ambit people with low incomes. Through
graduated credit, attempts must be made to lift the poor from one level to another
so that they come out of poverty. Financial inclusion may, therefore, be defined
as the process of enabling access to timely and adequate credit and other
financial services by vulnerable groups, such as weaker sections and low income
groups at affordable cost.
We all are familiar with the extent of exclusion. The National Sample Survey
data reveals that 45.9 million farmer households in the country, i.e., 51.4 per cent
of the nearly 89.3 million total households do not access credit either from
institutional or non-institutional sources. Nearly 51 per cent do not have access to
any credit, formal or informal. More importantly, despite the vast network of rural
branches, only 27 per cent of the total farm households are indebted to formal
sources; of them one-third also borrow from informal sources. Besides, there are
vast regional differences. There are parts of the country where more than 95 per
cent of the farm households do not get any credit from institutional or noniv
institutional sources. Thus, apart from the fact that exclusion itself is large, it also
varies widely across regions, social groups and asset holdings. The poorer the
group, the greater is the exclusion.
The question that is before us is how to extend the scope of activities of the
organised financial system to include low income groups. Institutions which
currently provide credit in the rural areas include the rural and semi-urban
branches of commercial banks, regional rural banks, cooperative societies and
micro-finance institutions. What is required is not to create any new institution for
providing credit to the excluded, but to enable the existing institutions to extend
their outreach. There is a need to find ways and means to effect improvements
within the existing financial credit delivery mechanism and evolve new models for
extending their outreach. In a broad sense, we need to address issues on the
supply as well as the demand side. The formal banking system, the rural
cooperatives, and non-governmental organisations (NGOs) must be
strengthened organisationally to extend their outreach. The financially excluded
sections require products which are customised to meet their needs.
Financial exclusion is also caused by demand side factors. Unless steps are
taken on the demand side, i.e., in the real sectors, mere supply side solutions will
not solve the problem. Credit is necessary for this but not sufficient. Credit has
to be integrated and made a part of an overall programme aimed at improving
the productivity and income of small farmers and other poor households. Putting
in place an appropriate credit delivery system to meet the needs of all marginal
and small farmers must go hand in hand with the efforts to improve the
productivity of such farm households. So, it is extremely important that we
integrate the credit delivery system of the organised financial system with the
programmes and policies being implemented by the government to improve the
lot of the poor. There are any number of programmes initiated by the
Government and if there is a significant degree of coordination between the
organised financial system and these programmes, I think we will have the best
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results, both from the point of view of improved delivery of credit as well as the
effectiveness of such programmes.
There are many things that can be said in order to improve the organisational
efficiency of banks and other financial institutions. Importantly, there is a need for
a change in the attitude of the people who serve in the banks. Empathy with the
poor, empathy with those who need credit must be established and here,
perhaps, improved training will help. Also, rural branches must go beyond providing credit and extend a helping hand to farmers in terms of advice on a wide variety of matters relating to agriculture and other allied activities. We should look up on the rural branches of commercial banks as not merely pure
financial institutions but also as advisory institutions. There is no denying that we need to open more branches in the rural areas as there are still pockets which are unbanked in our country. And, in these areas, the traditional brick and mortar branches may still be needed. There is also the need for simplification of procedures in order to enable farmers to obtain credit more easily from the organised system. In establishing a strong relationship between the organised financial system, like commercial banks, and those people who need credit, the Bank-SHG linkage scheme is of extreme importance. Self-help groups have become a very established institution in our country. Here, I am indeed happy that I have had some role to play in the initial evolution of the relationship between banks and self-help groups. It was in 1992 when I asked the banks to provide credit to such SHGs even though they were not legally recognised. The SHGs are still not recognised as legal entities. To go back, I think the experience with the working of the self-help groups has been extremely good. Their repayment ethics has been good and they have been able to repay promptly loans granted by commercial banks. There are of course a lot of improvements that are required. We need to increase the number of self-help groups in all parts of the country. Today, they are largely concentrated in the Southern region. Also, the self-help vi groups need to graduate from one level to another level. So far, they have been largely devoted to meeting the consumer credit needs of their members. It is only now that some of them are progressing towards becoming productive organisations. I think that this is a development which is extremely important. While recognising that self-help group members do need consumer credit, we cannot keep them at that level. It is important that such self-help groups become productive entities also, contributing to the local economy. Then there is the question about the rate of interest. Some state governments have provided subsidy in terms of reducing the rate of interest offered to self-help groups. I feel that the rate at which commercial banks even normally lend to a
SHG is reasonable and the interest rate subsidy is not really required. In fact, if state governments do want to support SHGs, they should do so in trying to help the SHGs organise themselves better, provide marketing facilities, and provide other kinds of advice on productive activities. I think the role of the state
government will be better served in providing these necessary additional facilities, which will make self-help groups more efficient rather than providing interest rate subsidy. There is also the question of federating the SHGs. To some extent, there has been progress in this area in some states where the SHGs have been federated at the village level, at the taluk level and also at the district level. Here, I feel it is important that the SHGs should see a felt need for federating, it should not be imposed from outside. If self-help groups find it worthwhile to come together so that they can reap some synergic benefits, then this should be promoted. Here, the role of such federations must be more in the form of a facilitator rather than
as a credit intermediary. Self-help groups should obtain credit directly from commercial banks and federations must facilitate this process rather than becoming another intermediary in the chain itself.
vii The other important thing is the role of the business correspondent and business facilitator. The business facilitator and the correspondent model needs to be effectively implemented. In order to increase the outreach of the banking sector, the Reserve Bank of India permitted banks to use the services of specified institutions as intermediaries for providing banking services. However, this scheme has not taken off. This model has a high potential. Banks must take the initiative to remove the obstacles that come in their way for a more extended use of facilitators and correspondents. The list of people who can become facilitators can be expanded to include even people like ex-servicemen. There is also the possibility of allowing Section 25 companies to become correspondents. There is also the possibility of allowing different types of institutions, like village cooperative credit societies, to become facilitators or correspondents for
commercial banks. Therefore we have to explore the possibility of finding appropriate institutions that can serve as a good link between commercial banks’ rural branches and farm households. There have been several studies which have been done in order to strengthen the village credit cooperative societies. Many of them are in a moribund state. We need to revive them. The Vaidyanathan Committee had made specific
recommendations for reviving both short-term and long-term cooperative credit, and these also should be addressed so that the cooperative credit movement again becomes a vibrant movement. But the critical question, and one that the study by Sameer Kochhar has also raised, is the cost of such intermediation through business correspondents and who is to bear this cost. As the study reveals, there is a cost involved in such intermediation and if this cost is not covered, then the viability of the system of business correspondents itself is in question. Let us recognise the fact that by introducing the business orrespondent model, we are ensuring a closer relationship between the poor people and the organised financial system. viii Today, in the task of making banking services available to everyone, technology
has come to have an important role to play. It is technology that has made it possible for business correspondents to deal with commercial banks. The required outreach into the interiors with low operational cost is only possible with the use of appropriate technology. But this technology, though simple in one way, still has a cost and therefore the question that arises is who will meet the cost. As
the report of Kochhar shows that while alternative technologies -- smart card, plastic card and so on-- are available, there is a significant viability gap and unless this viability gap is filled in by the banks or by any other mechanism, schemes to widen financial outreach will not take off. The Report on Financial Inclusion had suggested two separate funds--one for the promotion of financial inclusion and the other as a technology fund. While the former must be utilised for the promotion of the business facilitator and correspondent model as well as for the promotion of self-help groups, the technology fund can be used primarily to help the banks meet the cost for inducting the technology necessary for these models to succeed. In a sense, what we really need today is the development of a variety of institutions. As far as commercial banks are concerned, the two pillars which will help the organised banking system to widen its outreach is the strengthening of the Bank-SHG linkage scheme and the strengthening of the business correspondent model. But, the larger issue that remains is that we really need to see economic growth and social development going hand in hand. Social development cannot be sustained for a long period unless there is strong economic growth. But if economic growth by itself does not result in social development, it may not be of much use. Therefore, the two must go hand in hand. Economic growth and social development are the two legs on which a nation must walk. Any strategy of development which ignores any one leg will
mean that the country will only limp along. Equity and efficiency should not be posed as opposing considerations. They must be weaved together to produce a ix coherent pattern of growth. Here, financial inclusion has an important role to play. Financial inclusion is no longer an option but a compulsion.